MERI Summit 3.0

The Impact of Currency Floating on Your Business 

The MERI Summit held quarterly aims to connect with its audience and allow them to engage with prominent guest speakers on business, investment, and other thematic areas of interest. 

MERI Summit 3.0, organized in partnership with Mastercard Foundation, was held on September 6th at Capital Hotel in Addis Ababa, focusing on one of the government’s recent economic reform, currency floating.

This summit featured two keynote speakers who are experts in business and economics, with years of experience.

Understanding the Basics of Currency Floating

Before diving into the contents of the summit, let’s cover the basics of currency floating.

Imagine currency floating as a seesaw:  instead of having a fixed value, the Ethiopian Birr (ETB) now fluctuates based on supply and demand in the global market. When demand for Birr is high, its value rises against other currencies like the US dollar (USD). Conversely, if demand weakens, its value falls.

Previously, Ethiopia operated under a "quasi-pegged" system where the National Bank of Ethiopia (NBE) sets an official exchange rate for a period of time, leading to the overvaluation of birr and a thriving black market for currency exchange. The float aims to correct this by allowing market forces to determine the true value of the Birr.

Leading up to the summit, MERI had surveyed over 700 business people to gauge the early effects of the reform. The collected feedback was characterized by:

• Inflationary pressures: Rising cost creates pressure on businesses to adjust pricing, often resulting in customer loss.

• Revenue and valuation declines: Businesses reporting in USD experienced a sharp revenue decrease.

• Increased Operational Costs: Essential business operations, such as transportation and import duties (quoted in USD), have risen significantly, further squeezing profit margins.

One of the aims of the summit was to provide a better understanding of the mechanisms of the currency floating and address potential impacts on the Ethiopian business landscape.

Our Keynote Speakers

Mukemil Bedru, with 14 years of experience in Finance and Human Capital practice, is currently the Managing Partner at Elegance Group, former Board Chairman of Hijra Bank, and was a lecturer at Addis Abeba University for seven years.

Henok Assefa, an entrepreneur and investor with over 20 years of experience, whose work has focused on sectors like agribusiness, real estate, retail, and technology is the founder of Precise, co-founder of African Renaissance Partners, and Addis Abeba Angels.

Drawing Parallels: What Ethiopia Can Learn About Currency Floating from Ghana and Nigeria

Mukemil Bedru presented the case studies of two African countries: Ghana and Nigeria, who have implemented currency floating and offer contrasting lessons. Mukemil highlighted the mechanisms and impacts.

Ghana, adopting a gradual approach since 1983, achieved a stable Cedi and a thriving private sector. In contrast, Nigeria’s 2023 transition has been turbulent, with rising fuel prices and decreased foreign direct investment (FDI).

Key takeaways highlight the importance of:

• Gradualism and continuous adjustments: Ghana's phased approach to floating, with early measures to curb volatility, allowing for adaptation and eventual stability.

• Political consensus and stakeholder engagement: Ghana's success is partly attributed to agreement on currency management across the political spectrum and private sector involvement.

• Addressing underlying structural issues: Nigeria's struggles are exacerbated by its dependence on fuel imports despite being an oil exporter, highlighting the need to address deeper economic vulnerabilities.

While many feared Ethiopia's adoption of the reform would mirror Nigeria’s scenario, the reality is nuanced. Mukemil emphasized the need for stakeholder collaboration and a clear strategy to manage the floating system effectively.

Essential Actors: Identifying Key Stakeholders

Mukemil described Ethiopia’s situation using the analogy of “the cup and faucet”, where the cup represents our dependence on foreign aid that may eventually run dry, while the faucet illustrates a future with sustainable foreign currency flow from a robust export sector.

Mukemil mentioned the four key stakeholders and their role in the success of this reform:

1. Government: Stabilize the market, support export-oriented businesses, control spending, and improve access to finance and infrastructure.

2. Banks: Modernize systems to provide competitive services while collaborating with fintech companies for financial solutions.

3. National Bank of Ethiopia (NBE): Ensuring transparency and monitoring the market closely while addressing any market manipulation or illicit financial flows.

4. Businesses: Adapt to the reform, especially importers, while export sectors like manufacturing and technology could thrive. They will be more competitive in the global market, potentially boosting exports and driving economic growth.

Unleashing the Market: A Shift in Currency and Tax Policies

Henok explained how this economic reform signifies a major shift from government-controlled systems to market-driven dynamics. Instead of setting the USD exchange rate, the government is allowing market forces to determine its value. This transition is happening rapidly, leading to daily increase in the USD rate as the market finds its equilibrium.

Furthermore, the government is implementing significant tax reforms. Annually, taxes will increase by 1%, a new property tax will be imposed on real estate companies, and customs duties will also rise. 

The NBE’s monetary tightening policy has created a cash shortage, limiting banks' ETB reserves and potentially increasing borrowing costs for businesses.

Early Effects and Reactions

When the reform was announced, there was a great deal of uncertainty. MERI surveyed over 700 business people to gauge the early effects of the reform. The collected feedback is characterized by:

• Inflationary pressures: Rising cost creates pressure on businesses to adjust pricing, often resulting in customer loss.

• Revenue and valuation declines: Businesses reporting in USD experienced a sharp revenue decrease.

• Increased Operational Costs: Essential business operations, such as transportation and import duties (quoted in USD), have risen significantly, further squeezing profit margins.[SY1] 

Winners and Emerging Players

According to Henok, despite immediate challenges, certain sectors are poised to benefit from these reforms.

• Exporters: will gain global competitiveness due to a weaker currency.

• Agriculture and Manufacturing: Well-positioned to leverage local raw materials and target the export market.

• Technology: Holds promise, but reliance on imported tech components could pose challenges.

• Real Estate: Public funding for construction and the potential for Real Estate Investment Trusts (REITs) create new avenues for growth.

• Tourism: Ethiopia may become a more attractive and affordable travel destination for foreigners.

Navigating the Road Ahead

Ethiopia's adoption of a floating exchange rate system, while requiring careful navigation, has the potential to unlock significant economic benefits. A successful transition depends on:

• Creating awareness: From comprehensive public campaigns to educational programs, the public needs to understand how floating currency works and its implications for businesses.

• Creating a currency exchange platform: Transparency in forex trades is vital for building trust in the new system.

• Attracting foreign investment: Creating a stable and predictable investment climate, with efficient investment procedures can attract foreign direct investment necessary for growth.

• Risk management and mitigation: the government will need to intervene to mitigate the impacts of a floating currency on the population, either by putting in place measures to combat the rise of the cost of living, or intervening in the forex market to manage floating.

• Achieving sustainability: Developing a capital market can reduce reliance on foreign borrowing, and enhance the effectiveness of the monetary policy.

Conclusion

As the floating system has only been introduced recently, many impacts remain uncertain. According to the speakers and audience, for now, public perception is divided between optimism for growth potential and fears of economic chaos. Yet, it is important to remember that the success of the floating foreign exchange market is in the hands of multiple stakeholders who need to proactively monitor and adjust their commitments, as well as many factors. The coming years will be key in determining whether Ethiopia can fully capitalize on the benefits of this economic policy shift.