By Muluken Yewondwossen

The International Monetary Fund (IMF) has announced that its staff will be visiting Ethiopia in the coming weeks, raising speculation about a potential devaluation of the birr, the country’s currency.

Industry leaders and economists have urged the Ethiopian government to explore alternative solutions to address its severe foreign exchange shortages. This includes engaging in negotiations on multiple fronts simultaneously to meet the demands of foreign allies.

Ethiopia, grappling with acute foreign exchange challenges and seeking to stimulate economic activity, has been in discussions with the IMF for financial assistance. However, these discussions have yet to conclude, despite initial discussions about foreign exchange assistance early last year.

The IMF has outlined prerequisites for releasing the anticipated funds, including assurances and support from Ethiopian financiers and partners. Additionally, it has urged the government to narrow the gap between official and informal currency exchange rates.

Concerns have arisen among the public regarding the possibility of the government implementing a birr devaluation, a move the government has resisted for years. While the government has sought to downplay these reports and reassure the public, fears persist that external pressure and the foreign exchange shortage may prompt a change in stance.

Prominent industry commentators and investors have also warned against birr devaluation, citing potential negative repercussions. They argue that any benefits would be outweighed by disadvantages, including potential social and political unrest and economic instability.

Alemayehu Geda, a macroeconomic specialist, cited the example of Sudan in 2018, where a significant devaluation of the Sudanese pound, recommended by the IMF, led to skyrocketing inflation and a sharp decline in the exchange rate.

Similar challenges have been observed in Nigeria, Ghana, and Egypt, where currency devaluation resulted in soaring inflation rates and depreciation against major foreign currencies.

Analysts highlight the discrepancy between official and black market exchange rates, underscoring the complexity of implementing currency devaluation as a solution to foreign exchange shortages.

As Ethiopia navigates its economic challenges, the government faces mounting pressure to address foreign exchange issues while mitigating potential risks associated with currency devaluation. The forthcoming visit by IMF staff signals ongoing discussions and deliberations aimed at finding a sustainable path forward for the country’s economy.

As discussions surrounding a potential birr devaluation continue, experts have also raised concerns about the stability of exchange rates, particularly between official and parallel markets. Alemayehu, warned against attempts to harmonize exchange rates, citing past experiences in other countries.

Alemayehu expressed skepticism about the motivations behind Western pressure to weaken currencies, suggesting potential ulterior motives. He questioned the necessity of such measures unless there were underlying political agendas.

However, other Ethiopian experts argued that many goods are currently imported at prices aligned with the parallel market. Presently, the black market rate stands at 115 birr for one dollar, compared to 56 birr in the official market. These analysts believe that any attempt by the government to devalue the birr to match parallel market rates would have significant market implications.

They pointed out that approximately 70 percent of imports are conducted at official exchange rates, primarily for government purchases. Key imports such as petroleum, fertilizer, pharmaceuticals, and other essential goods are heavily reliant on official exchange rates. Alemayehu emphasized that a devaluation would lead to a doubling in prices for key commodities like petroleum, thereby driving up transportation costs and ultimately inflating food prices.

In terms of economic impact, experts projected that inflation would at least double in response to a devaluation, with subsequent effects on the government budget. Currently, the budget assumes a dollar exchange rate of 56 birr, but a devaluation would require a significant revision of these projections. Given that around 40 percent of the budget relies on foreign exchange, any adjustment would necessitate additional funding, likely through money printing.

Moreover, the decline in the tax-to-GDP ratio over the past decade has raised concerns about the government’s ability to generate revenue to cover increased expenditures. Internal conflicts within the nation further complicate efforts to boost tax collection.

Despite these challenges, proponents of devaluation argue that it is a necessary step to address the country’s foreign currency shortages. They advocate for implementing recommendations from financiers while seeking assistance from allies. However, opponents of devaluation maintain that the government must carefully weigh its options, considering the potential economic and social ramifications of such a decision.

One potential solution under consideration is the devaluation of the birr, coupled with obtaining foreign exchange assistance from external partners. However, experts caution that such a move could have significant repercussions on inflation and social stability.

Alemayehu and other experts propose an alternative approach, urging the government to advocate against devaluation and instead gradually depreciate the birr over time. Drawing parallels to Ghana’s successful devaluation of the cedi without causing inflation, they suggest a cautious approach to currency adjustment.

A key aspect of this alternative strategy involves aligning the remittance rate with the parallel market, thereby encouraging legitimate remittance flows. Additionally, exporters of non-traditional commodities would benefit from a discounted exchange rate, fostering growth in new export sectors. This approach, experts argue, would mitigate the risk of inflation while promoting economic growth.

While acknowledging the government’s challenging circumstances, experts stress the importance of effective foreign exchange management. They highlight the potential for significant revenue generation through measures such as curbing smuggling and enhancing forex management practices.

Julie Kozak of the IMF has confirmed ongoing discussions with Ethiopian authorities regarding economic policies and potential reforms. These discussions aim to support Ethiopia’s Homegrown Economic Reform Agenda (HGER II) and address macroeconomic vulnerabilities. The IMF team’s visit to Addis Ababa in October marked progress in identifying areas for IMF support, with further discussions planned in the coming weeks.

As Ethiopia navigates its economic challenges, policymakers face critical decisions regarding currency devaluation and economic reforms. The outcome of these deliberations will have far-reaching implications for the nation’s economic stability and growth prospects.

By our staff reporter

In a bid to bolster domestic production and reduce reliance on imports, the Ministry of Industry (MoI) has rolled out a new manufacturing policy prioritizing import substitution.

MoI has devised strategies aligned with the recently endorsed manufacturing policy, which prioritizes the expansion of the import substitution subsector. Through the Investment Board, industry parks are now open to local investors, facilitating the implementation of these strategies.

Replacing a previous policy dating back 22 years, the updated manufacturing policy underscores import substitution as a primary pillar for sectoral development. Unlike its predecessor, which heavily emphasized export-led manufacturing, the revised policy shifts focus towards import substitution industries.

Experts highlight the nation’s substantial capacity for domestic production but note that significant foreign exchange is still being drained by imports of various finished products. In response, the new policy places particular emphasis on bolstering the manufacturing sector to curb import dependence.

Zerihun Abebe, Head of MoI’s Export Products Competitiveness, emphasizes that the shift in policy direction does not discredit the previous approach but rather seeks to strike a balance between export and import substitution. With imports surpassing exports by a significant margin, there is a pressing need to narrow the trade deficit by fostering local production.

The new policy is built on two main pillars. Firstly, it aims to enable the manufacturing sector to produce inputs required by manufacturers of finished products. Secondly, it seeks to boost domestic manufacturing output to reduce reliance on imported goods. Over the next three years, the policy targets the complete replacement of over 96 imported commodities with locally manufactured alternatives.

Crucially, the policy takes into consideration factors such as the most commonly imported products and the nation’s potential and resources for rapid substitution. By harnessing these resources and aligning strategies with the policy objectives, Ethiopia aims to strengthen its domestic manufacturing base and achieve greater self-reliance in key sectors.

He mentioned that the policy is now established, with several strategies under development, and an implementation plan set to follow suit. Zerihun disclosed, “following the recommendations, approximately 50 strategies will be formulated, and currently, four strategies have been devised, including the implementation tactic for import substitution.”

Zerihun highlighted the significance of one of the strategies, the incentive approach, which is on the brink of initiation. He explained, “distinct incentives will be extended to the import substitution and other manufacturing sectors to invigorate the industry.”

Recognizing the pivotal role of local investors in industry growth, the policy prioritizes their involvement. Zerihun emphasized, “To achieve the anticipated sectoral growth, we must prioritize local investors.”

In line with this, the Investment Board has given the go-ahead for local investors’ participation in industry parks predominantly owned by foreign direct investments. The new program aims to introduce performance-based incentives using innovative methodologies.

Discussing the incentive structure, Zerihun stated, “Under the new policy, incentives will be provided based on investors’ activities, diverging from the previous uniform approach.”

With a shift towards market-led manufacturing industry development, the policy has been revamped to emphasize productivity and competition, necessitating stable macroeconomic conditions, adequate financing, and access to land, infrastructure, and logistics.

Despite the dominance of traditional agricultural commodities in exports, the nation’s manufacturing sector exports goods worth approximately half a billion dollars.

The leadership of MoI is actively championing the new policy across various sectors. Notable achievements include the successful replacement of malt supply for brewers and the adoption of locally sourced coal by the cement industry. Additionally, textile and leather supply to specific sectors, notably the military, has witnessed substantial growth.