On Tuesday, Nigeria’s central bank announced a supersized 400-basis-point rate hike in the fight against inflation and its depreciating currency. Hard to say if this move will stop the naira’s depreciation. Since January 2022, it has declined by 74% against the US dollar. And Nigeria is not alone. Other African countries have had a rough go over the past two years. The Ghanaian cedi, Kenyan shilling and South African rand are all down over the same period.
Africa’s rapidly depreciating currencies are eroding households’ savings, increasing costs for businesses and deterring long-term foreign investment at a time when the region’s economies are seriously struggling. For policymakers, the only sustainable interventions ought to be aggressive export promotion and free floats to let markets determine currency price levels.
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Depreciation episodes create both economic and political challenges for officials. On the economic front, reliance on imports of food and fast-moving consumer goods means that currency depreciation translates into rising inflation. It also increases the cost of servicing foreign debt, forcing governments to increase domestic borrowing and crowd out private lending. Meanwhile, foreign investors worried about currency risk and repatriating profits have rushed to wind down equity and debt positions, putting further pressure on weakened currencies.
On the political front, policy adjustments in many African countries have not always been timely — partially because no politician wants to inflict further pain on ailing consumers and businesses. For example, Nigeria avoided floating the naira ahead of its presidential elections last year, after which monetary policymakers had to contend with the ramifications of other reforms — like the unpopular removal of fuel subsidies. Because of the slowness in monetary tightening, the International Monetary Fund (IMF) projects the naira will lose another 35% of its value in 2024. Meanwhile, inflation in Nigeria is at a 27-year high of more than 28%.
In the same vein, this year’s elections in Ghana and South Africa are likely to create incentives for relatively loose fiscal policies that will lead to more inflation and currency depreciation. In the 2020 election, Ghana’s deficit rose to 11.4%, well over the 4.7% target. South Africa’s deficit this year will hit 4.5%, before declining to 3.7% next year. In Kenya, recent gains by the shilling on the back of its Eurobond and strong showing in the domestic debt market are unlikely to stick — in no small part because of relatively high levels of government spending (and borrowing) on the back of sky-high demand for public services.
Of course, part of the appreciation of the dollar (including against non-African currencies) has been the result of interest rate hikes by the US Federal Reserve. Shocks on global supply chains have also raised the cost of imports, placing downward pressure on other currencies. Since 2020, both factors led foreign investors to exit African markets for fear of currency-related losses or an inability to repatriate their earnings due to forex controls. In 2022, investors withdrew $170 million from the Kenyan stock market.
Still, African policymakers must own up to their own missteps.
For decades, the region has failed to develop export sectors beyond primary commodities. Unlike manufacturing and high-skill services, standardized earnings from commodity exports have seen steady declines over the last four decades. According to data from the IMF, Ghana’s commodity earnings relative to its import costs peaked in 1980; in Kenya, it was in 1986, Nigeria in 2008, and South Africa in 1980. Meanwhile, imports (especially of manufactured products) have ballooned. Among these countries, only South Africa is a net exporter. In 2021, Ghana, Kenya and Nigeria all ran large trade deficits that limited their ability to earn and accumulate foreign reserves.
Export weakness has also distorted African countries’ monetary policies. Authorities have historically intervened in forex markets to stabilize price levels, and politicians have often succumbed to popular pressure to subsidize imports and avoid the loss of savings due to currency depreciation. These arrangements resulted in over-valued currencies, and in some cases (like Nigeria) led to parallel forex markets that exacerbated uncertainty over access.
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It took those external shocks mentioned above (and considerable pressure from the IMF and the World Bank) to force policymakers to let markets determine their currencies’ price levels. It’s telling that the South African rand has fared relatively better than most of the heavily traded African currencies — the country is the only one in the region that has had a free float.
The steep currency declines that Africa is seeing today should force a switch away from imports toward domestic production and exports. But barriers such as high labor costs, expensive power, poor infrastructure and inefficient regulation limit African firms’ competitiveness. Consequently, there is a distinct possibility that the depreciations will simply result in a reduction of both imports and domestic consumption. The last thing the region’s economies need is a period of stagflation.
So even as officials work on instituting floating exchange rates and taming inflation through higher interest rates, they must also lower barriers to export-oriented manufacturing. Failure to do so will continue to expose their currencies to volatility in tandem with global commodity price cycles.
Ken Opalo is an associate professor in the School of Foreign Service at Georgetown University.
