Understanding Economic Fundamentals: Can South Sudan export its pound?

BY: Garang Atem Ayiik, Economic commentator, APR/28/2015, SSN;

Introduction
In November 2013, Central Bank of South Sudan devalued the pound from 3.16 to 4.5 SSP per a dollar. An action that was described by the governor as meant to unite the black market and official rates. Immediately, prices increased or suppliers’ hoarded goods mostly fuel.
There was outcry from the public in reaction to devaluation. The governor of Central Bank and his team was mobbed-justice and immediately asked to rescind devaluation policy.

Two lessons were immediately visible; one, that an outright devaluation is likely to cause readjustment prices – goods and black market rate upward; and second, by encroaching on Central Bank independence in policy decision, despite the intention, parliament compromised the role of Central Bank as per Bank Central Bank Act 2012.

Immediately after independence, South Sudan adopted fixed exchange rate. Around August 2011, the Bank tried to auctioned dollars to banks and bureaus, this action caused gap between black and official rates to narrow. The author believes this was a good initiative to introduce some competitive element into exchange rate risk-free business.

Toward the end of 2011, Central Bank adopted an equal allocation mechanism of dollars to banks and bureaus. This mechanism has two inequity issues to financial agents; first, it ignores the clients’ base serviced by each bank or bureau, a bank with for instance 2500 customers is given the same allocation with a bank with 5000 customers; and second, it provides incentives for growth of shallow financial institutions – banks and bureaus.

To the public, fix rate has three shortcomings: first, increase rent-seeking through allocation and licensing; second, distributive injustices in term of access at official rate; and finally provide an obligation to Central Bank to maintain fix exchange rate disregarding inflows of dollars as the case now with South Sudan.

Black market has increased from 3.16 to about 9.5 SSP at end of Q1, 2015. The difference is black market premiums and the reasons why there are so many banks and bureaus.

South Sudan Exchange Rate Fundamentals and Policy Option:
Exchange rate policy has two main policy objectives; international competitive and macroeconomic stability. Devaluation of November 2013 in part was expected to increase exports in accordance with textbook economic prescriptions.

This argument to increase South Sudan exports ignores structural challenges facing South Sudan like insecurity, infrastructures, technology, capital, entrepreneurship, institutions and attitude weakness. This is a reason why textbook economics need to be appraised in accordance with local challenges.

South Sudan export sector cannot be induced with exchange rate incentives but instead with local production for consumption supported by fiscal policies which is preferable – import substitution policies, this will gradually reduce demand for imports and by extension for dollars.

It is why the author believes only macroeconomic stability can be achieved with exchange rate policy. Currently fix exchange rate is better than float rate for stability. But again, as it is, it is not sustainable. Can government supply demanded dollars to the market at 3.16 SSP? It is a no and hence author believes a trade-off between macroeconomic stability and sustainable is required.

Stability means government supply dollars required by the market, if this happens, inflation will be low as South Sudan is an import country which is easily affected by exchange rate induced inflation. Sustainability means government supplying enough dollars to the market to keep exchange rate at 3.16 SSP without fail.

Author believes Central Bank needs correct data on dollars demand and supply. Scan of 2011 – 2015 supply to the market does not follow any trend but ad hoc behavior that seems to depend on availability of dollars with the Bank. To make economic decision without data is like to walk in unknown path.

Auctioning dollars is author’s preferred policy option. First, this will allow shallow financial institutions to wither slowly. Otherwise, these are future financial disaster.

Second, auctioning dollars allows pound to depreciate gradually, allowing economic agents to adjust; and thirdly, provides window to Central Bank to manage sustainability by supply dollars it can afford and difference will be reflected in depreciating pound.

Fourth, auctioning will introduce a competition between bureaus and banks and this will reduce gap between official and black market rate.

In the above proposal, banks and bureaus will always compete for available dollars, Central Bank will always give previous day trading rate average and band at which these agents will bid. This will ensure depreciating pound difference goes to the government instead to individuals.

Overall, an option that will introduce some competition at official rate window where dollars are access but with some band on the rate at which dollars can be sold to the public by banks and bureaus, will ensure stability.

Finally, the fact that Central Bank can always supply dollars that it can afford and any difference can be reflected in pound value ensures sustainability. With stability as key exchange rate policy objective, where possible, the Bank can always provide more dollars to ensure a strong pound to control inflation.

Import substitution production must be pursued vigorously and fiscal policies can be used to support this policy path. Again, coordination between policy makers is require within the framework of national plan.

Can South Sudan Export Pound?
With current fixed rate, interruption of production in Unity and Tharjath and diving oil price in the World market, Central Bank has come under pressure to supply dollars demanded by the market to keep the rate at 3.16 SSP. This demonstrates that fixed rate is not sustainable without sufficient dollars supply.

The exchange rate in the black market has deteriorated in the black market to reflect probably insufficient dollars supplied by the Bank.

Maybe some risk-mitigation behaviors by economic agents who might by stocking dollars in anticipation of working pound. If things continue the way they are, government might surrender from protecting the pound, this the sustainability we are talking about.

Desperate times calls for desperate actions. Recently, the government has increased policing the markets. Some suggestion includes calling Uganda, Kenya, Ethiopia and other neighboring countries to start using pound to reduce demand for dollars.

Whether it is ignorance or public relation exercise, this latest approach is not going to work. Today in South Sudan, if you go to a bank and you want to send money to Uganda or Kenya, you can’t use pounds, you got to get dollars. This means even within South Sudan borders, pound is not a legal entity.

Economic agents acting rationally know that pound has been over-valued and for illustration purposes, let’s assume Machok has $100 to send to Uganda, if Kenya Commercial Bank allows Machok to send 316 SSP being the value of pound using official rate, KCB will not use the same amount to get the same amount but less and that is why it can’t accept to sell its asset below it market value.

Economically speaking, calls to ask Kenya, Uganda, Ethiopia and other countries are misplaced and laughable as this is not supported by any economic reasoning.

Countries’ currencies become convertible on two counts: one, both currencies must be fairly valued. If any is not correctly valued, market corrects this through arbitrage; and second, both must be trading with each other, this means exports and imports exist between both countries.

In case of South Sudan, the pound is artificially kept over-valued through a fixed rate; and South Sudan does not export anything to its neighbors whether Kenya, Uganda, Ethiopia or any one of its neighbors and hence these countries don’t need South Sudan pound.

So how will the proposed push for pound utilization in neighboring countries work? Assuming the policy makers of these countries act rationally in the interest of their countries which authors believe they will.

If South Sudan Central Bank gives them pounds in exchange for their currencies, they know South Sudan pound is over-valued, why will they accept? I mean they cannot convert those pounds to other assets like dollars without losing value of their money and they have nothing to buy from South Sudan to use those pounds.

Worst, the citizens in these countries will not go to their Central Bank to buy South Sudan money because they too know about the valuation problem. For instance, a Kenya citizen will instead convert his Kenya Shillings into dollars and come to South Sudan with dollars. He/she then sell dollars at higher rate in the black market than buying over-valued pounds in Kenya with his Kenya shillings.

The proposal does not consider arbitrage, rationality behavior, and simple demand and supply analysis. It is basically unworkable and waste of time to pursue unless South Sudan believes policy makers in neighboring countries are going to behave irrationally disregarding economic fundamentals.

Conclusion
South Sudan cannot export its pound. The more South Sudan wants to pursue this option, the more it looks vague and empty without rigor. South Sudan exchange problem require long term surgical operation, no economic pain-killers will work.

In November 2013, Central Bank of South Sudan devalued pound from 3.16 to 4.5 SSP per a dollar. An action that was described by the governor as meant to unite the black and official rates. Immediately, prices reacted immediately by increasing prices or other hoarded goods mostly fuel.

There was outcry from the public in reaction to devaluation. The governor of Central Bank and his team was mobbed-justice and immediately asked to rescind devaluation policy.

Two lessons were immediately visible; one, that an outright devaluation is likely to cause readjustment prices – goods and black market rate upward; and second, by encroaching on Central Bank independent policy decision, despite the intention, role of Central Bank as per Bank Central Bank Act 2012 was compromised by parliament.

Immediately after independence, South Sudan adopted fixed exchange rate. Around August 2011, the Bank tried to auction dollars to banks and bureaus, this action caused gap between black and official rate to narrow. The author believe this was a good initiative to introduce some competitive element into exchange rate risk free business.

Toward the end of 2011, Central Bank adopted an equal allocation mechanism of dollars to banks and bureaus. This mechanism has two inequity issues to financial agents; it ignores the clients base serviced by each bank or bureau, a bank with for instance 2500 customers is given the same allocation with a bank with 5000 customers; and provide incentives for growth of shallow financial institutions – banks and bureaus.

To the public, fixed rate has three short comings; increased rent seeking through allocation and licensing, distributive injustices in term of access at official rate; and finally provide an obligation to Central Bank to maintain fixed exchange rate disregarding inflows of dollars as the case now with South Sudan. Black market has increased from 3.16 to about 9.5 SSP at end of Q1, 2015

South Sudan Exchange Rate Fundamentals and Policy Option
Exchange rate policy has two main objectives; international competitive and macroeconomic stability. Devaluation of November 2013 in part was expected to increase exports in accordance with textbook economic prescriptions.

This argument to increase South Sudan export ignores structural challenges facing South Sudan like insecurity, infrastructures, technology, capital, entrepreneurship, institutions and attitude weakness.

South Sudan export sector cannot be induced with exchange rate incentives but instead with local production for consumption supported by fiscal policies is preferable – import substitution policies, this will gradually reduce demand for imports and by extension for dollars.

Auctioning dollars is sure policy option.
—- First, this will allow shallow financial institutions to wither slowly otherwise these are future financial disaster,
—- second, will allow pound to depreciate gradually allowing economic agents to adjust; and —– thirdly, provide window to Central Bank to manage sustainability by supply dollars it can afford and difference will be reflected in depreciating pound,
—- fourth, auctioning will introduce a competition between financial bureaus and banks and this will reduce gap between official and black market rate.

In this proposal, banks and bureaus will always compete for available dollars, Central Bank will always give previous trading rate average and band at which these agents will bid. This will ensure depreciating difference goes to the government instead to individuals.

Overall, an option that will introduce some competition at official rate window where dollars are access but with some band on the rate at which dollars can be sold to the public by banks and bureaus, this will ensure stability.

Finally, the fact that Central Bank can always supply dollars that it can afford and any difference can be reflected in pound value ensures sustainability. But again, with stability as key exchange rate policy objective, when possible the Bank can always provide more to ensure a strong pound.

Despite all above proposal, import substitution production must be pursued vigorously and fiscal policies can be used to support this policy path. Again, coordination between policy makers is require within the framework of national plan.

Conclusion
South Sudan cannot export pound. The more South Sudan wants to pursue this option, the more it looks vague and empty without rigor. South Sudan exchange problem require long term surgical operation, no economic pain-killers will want.

In short run, peace to restore oil production in Tharjath and Unity which will increase inflows of dollars to easy pressure on pound is key otherwise, without peace exchange rate induced inflation will continue to surge beyond imagination.

In the long run, structural economic correction required. Basically increasing local production and improve social services with an aim to reduce demand for dollars for imports. South Sudan needs to concentrate on imports substitutions supported by fiscal policies and this has to do be done within national economic plan framework.

Garang Atem Ayiik is an independent economic commentator. He can be reached at garangatemayiik@gmail.com

5 Comments

  1. False Millionaire says:

    Mr Garang,
    You deserve to be some where among the wall street stock exchange elites.It’s a pity we are having such golden citizens like you but the corrupt incompetent elites running our country have selfishly made up their minds to push it to the ground instead of trusting it into your golden hands.But stay in peace.Even on an unfortunate eventuality of collapse,you will be still needed with your excellent level of competence to pick up the pieces!!!

  2. Eguatorians says:

    As long as war continues in south Sudan, investors are not coming to a war zone and bad governance will not turn the economy around. South Sudan is a failed state that needs an overhaul immediately. Unfortunately,your guy doesn’t know, what economic impact his policies will have in this young nation that only faces looting 24/7.

  3. Eguatorians says:

    The government is surviving on borrowed money,to be pocketed,without hope for tomorrow’s generation.

  4. Charles says:

    Exporting the Sout Sudanese pound is a non-starter as you have aptly argued it. Our neighbours are not that stupid to agree to that. As Equatorians has said above, our only exit way to this economic doom is to stop this senseless war and pursue peace and development of our country. At the moment we have nothing to export and no sensible investor will risk his investment and life to come to South Sudan. And now the tragedy is that we are running the country by borrowing from international loan sharks, shifting the burden to the future generation to pay plus the accompanying excessive interest rates. We are also now borrowing against our oil before it is even extracted from the ground, again denying our innocent future generations their fair share of the natural resources. The unfortunate thing is that our leaders know all these, and yet they are hellbent in bankrupting this young nation, and for what?

    God save South Sudan.

  5. David Lokosang says:

    Bravo Garang Atem. The problem with the regime in Juba is that, all their decision are taken out of ignorance. They don’t make critical and objective analysis of any situation before taking decision.
    For example last month the council of ministers and the parliament approved a loan of $500,000,000 dollars from Qatar without knowing the impact of that on the current and future generations. Any body with economic credentials would disapprove that kind of borrowing because it is not invested for future prosperity instate it is being used for government spending. The regime in Juba is surviving on money borrowed from foreign countries with high interest rate and if it continues in that trend, all our mineral resources will be owed to foreign companies and governments to cover the debt borrowing. Therefore in future South Sudan will remain a poor country then our future generation will ask where a hell our oil, gold, iron, fertile land and so forth are?
    Imagine the poor agreement they signed with Khartoum government in regard to the use of pip line to transport our oil!
    According to that agreement, south Sudan is oblige to pay Khartoum $25 to $31 per barrel. They did not ask themselves what would happen if the oil price drop? any reasonable minded person would agree on percentage EG. 25% then it doesn’t matter whether the price reduce or not they pay the same percentage. If the oil price is $45 then they pay 25% of that amount. As the result of that stupid agreement and with the drop of oil price and oil production, the government is now relying on debt loan.
    For those who support Kiir, my advise to you is that don’t support him blindly. use your common sense to see where is the country heading. I am not against him as a person but as the president of our beloved country his decisions and actions proved him to be unfit for the job. What the government is doing not only affect those who oppose him but including you and the future of your kids.

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