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What happened to economic growth in Angola? The problem of currency depreciation and oil exports

The currency crisis in Angola
Without proper care with currency confidence by the Central Bank of a country, the poorest are the ones who will suffer the most, being sometimes blamed without no fault of their own for black market sales of the currencies. Discretionary policies or rules are always a matter of debate in Central Banks not only on developing countries, but also on the developed ones. While the ECB tries to follow specific rules, tying their hands and committing to inflation levels, creating stability and confidence in the currency, for developing countries with untrustworthy financial institutions, discretionary policy may sometimes be the best solution.
In a recent past, emerging economies such as Argentina and Thailand (among others East-Asian and South American countries) have suffered due to a currency crisis that stroke the countries between 1997 and 2002. Currently, countries such as Venezuela and Angola are suffering similar problems (both due to a great dependence of oil exports).

What is going on?
Right now, there is a currency crisis in the Angolan kwanza. Since April 2016, the sub-saharan african country has been keeping constant an official rate of roughly 165 kwanzas per  dollar (usd). The problem is that the official exchange rate is not the equilibrium one. This means that taking into account the currency volatility, confidence level, and purchasing power, people generally value 1 dollar more than 165 kwanzas. In other words, there is a black market in which the currency sells for a higher price. The commonly known “kinguilas”, the name given to dollar sellers in the streets of Luanda, trade kwanzas to dollars at a higher rate. In an NPR (national public radio in the US) interview, one of the so called kinguilas says that she could trade four dollars for one thousand kwanzas[1]. This would translate into an exchange rate of 250 kwanzas per dollar. One may ask “why would anyone want to trade 250 kwanzas for 1 dollar in the black market, when the official rate that one can trade is a cheaper 165 kwanzas per 1 dollar in a bank?” The problem is that the official rate is not equal to the equilibrium one, since there are simply no dollars in the country for the trade to be made at the official rate. The country would run out of dolares, and so the government keeps most of the reserves, without too much being available to the public and to the banks[1]. The problem is the lacking of foreign reserves (dollars).

Why is that a problem?- The purchasing power of the population
The problem for Angola of not having the backing of dollars and no confidence in their currency, is that their consumption goods are almost all imported. With their currency crisis, it is very difficult for them to import goods from abroad, since their dollar reserves are too low, and the kwanzas are not worth much. Angola imports several basic goods from abroad, such as food, medicine, construction materials, vehicles, and capital goods[2], and thus it affects greatly the investment of the rich, and the consumption patterns of the poor that are the most affected party.
Moreover, emigrants in Angola in order to send unilateral transfers to their families have a problem of receiving their salary in kwanzas, and not being able to trade them for dollars. People have to “get creative” to deal with this problem, by buying assets that have intrinsic value such as cars, shipping them to a country with a stronger currency, (euros or dollars for example), and trading the goods for the currency[3]. For low earners and poor people, the scenario gets even darker as they move to their nearby countries, such as Congo, to sell products in order to get their hands on dollars.

What can be done to solve the problem?- The real exchange rate

The real exchange rate represents the purchasing power of the Angolan consumers to goods sold abroad, and it is primordial for Angola to protect it considering its huge dependence on imports.
The real exchange rate depends on three things: the nominal exchange rate, the price level index of foreign goods and services (in dollars), and the kwanzas price level index. To control the real exchange rate, Angola has some control over the nominal exchange rate (in a confidence providing aspect), and has control over its own inflation.
Angola’s Central Bank has two options as any other Central Bank of a developing country with uncredible institutions and weak currencies.The first option is to  peg its currency against a strong one, such as the dollar, which is being done from April 2016 as it was stated earlier.  The main advantages of this policy is to protect a real exchange rate devaluation in the long-run, by increasing confidence on the rule following policy of the Central Bank. How can Angola keep the real exchange rate fixed? Assuming a stable nominal exchange rate, which happens when a currency is strong and have the investor’s confidence, Angola would just have to increase their price levels proportionally to the dollar price levels. This is what is called pegging against the dollar. The problem is that Angola does not totally control for the nominal exchange rate. Although commitment to pegging can increase the investors confidence and thus holding stable the nominal exchange rate, the nominal exchange rate can be driven by speculatory movements when there is no confidence in the financial institutions, mainly the Central Bank, to keep the peg. Thus, the more investors bet on the peg to break, the more likely it will happen. This is what is called a self-fulfilling currency crisis and it has happened in Argentina. By pegging to the dollar, Angola is protecting consumer prices, at the risk of the peg not holding (which is actually happening as there is a black market in the currency trade, as the dollars are more scarce than what the government tries to state they are). The low levels of foreign reserves makes investors not believing in the peg. It’s all a matter of confidence.
The second option is to let the exchange rate float. The main advantage of this policy in the short-term for Angola is that it could guarantee that the real exchange rate would be kept fixed. The problem of this is that it would not be sustainable in the long-run. As expectations adjust, the nominal exchange rate would be more and more depreciated (as people expect for the currency to be devalued throughout time), which would force the inflation to increase further and further in order to keep the real exchange rate fixed. This could lead to hyperinflation, and with such a high instability in the currency value this would definitely not be the best solution. Cases of recent hyperinflation in Zimbabwe led to catastrophic economical and social problems, with the highest monthly inflation rate accounting to 79,600,000,000%, as the currency depreciated to a value of (roughly) zero [4].

How did Angola got to that situation?

Mainly because of its oil dependence. According to OPEC, oil production and related activities account for 45% of the country’s’ GDP, and 95% of their exports[5]. The drop in oil prices in recent years (from 2014 onwards) has been cut down by half, from roughly 100$ a barrel to 50$ a barrel (being closer to 60$ this month). The problem with this is that the main source of dollars the country had began to provide fewer, and fewer dollars. The 27.7 billion dollars backing the kwanza in 2014 were roughly halved to a value of 15.4 billion dollars in October 2017, according to the National Bank of Angola (Graph 1). Without backing, and poor economic results due to the decline in oil prices, the currency loses the so needed confidence to keep the nominal exchange rate stable.

A new hope
Angola’s new president João Lourenço has promised to do some restructuration of key sectors, that were tightly controlled by the familiy of the former president José Eduardo Dos Santos, and the richest woman in Africa, Isabel Dos Santos. He has already taken actions by hiring a new chairman to the state owned oil company Sonangol, taking the control away from Isabel dos Santos. It has also appointed a new president for the National Bank of Angola (José Massano). However, the presidency is yet to fresh for results to be seen. For now, Moody’s has even downgraded Angola’s credit rating, arguing that their their foreign reserves levels were low, high inflation (26% in November) in the country persists, there is low public spending , and that the banking system is weak[6]. There is still much to be done, but for now, the new president has shown some character in trying to disentangle the tight control of the family over the government and thus increasing confidence in the country’s Central Bank and on their oil production firms, the main problems affecting the currency devaluation in Angola in the last years.

Graph 1
Sem Título

References


[1]https://www.npr.org/2017/10/17/558252004/foreign-currency-crisis-tells-the-story-of-angolas-economic-peril
[2]http://www.imf.org/external/pubs/ft/fandd/2017/06/adriano1.htm
[3]https://www.bloomberg.com/news/articles/2017-09-14/used-motorbike-anyone-angolans-get-creative-as-dollars-dry-up
[4]https://www.cato.org/zimbabwe
[5]http://www.opec.org/opec_web/en/about_us/147.htm
[6]https://www.moodys.com/research/Moodys-downgrades-Angolas-ratings-to-B2-outlook-stable–PR_373924

Eduardo Carvalhos Dos Santos
Student number 4187

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Author: studentnovasbe

Master student in Nova Sbe

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