In March 2019, I wrote a post explaining why the cedi was depreciating at a rapid rate. At that time the cedi had witnessed a 17% drop in less than 3 months and was trading at about GH¢5.765 to the US dollar. Today the exchange rate is quoted at around GH¢6.5 on Bloomberg, but you are more likely to get an exchange rate closer to GH¢7.00 at forex bureaus. Having depreciated by 4.7% this year alone, the Ghana cedi is the second worst performing currency among 15 tracked African currencies.

The Bank of Ghana (BoG) has been trying to stem the tide by providing the market with dollars through its regular auctions. However a lot of demand remains unmet as the recent auction saw the BoG supply $75m in response to a demand for $293m as seen in Figure 1 below.

So what could be behind this rapid depreciation? In this post I will explain factors at play and what we could expect going forward.

Fiscal Struggles

In February 2020, the government borrowed $3 billion in a widely oversubscribed Eurobond issue with investors offering to buy 5 times the amount issued. This was followed up by another $3 billion Eurobond issue in March 2021, although investors showed much less enthusiasm this time around. The issue made Ghana the first Sub-Saharan African country to issue a US dollar-denominated bond post-COVID. However, the lack of enthusiasm was a foreshadowing of things to come.

A budget deficit of 13.8% of GDP in 2020 was followed by a 12.1% deficit in 2021, an indication that government expenditure was rapidly exceeding its revenue. These deficits also led to a ballooning of the government debt from about GH¢200 billion in 2020 to over GH¢340 billion at the end of 2021 (78.4% of GDP).

The 2022 budget proposes to raise an unprecedented GH¢100.5 billion in revenue out of which 37% is projected to pay interest on debt and 35% is expected to pay public sector workers. This leaves government with little room to maneuver even if the very optimistic revenue targets are achieved. Already, the delay in passing a legislation to tax digital transactions (known as the e-levy) has cast doubts on the ability of government to meet these revenue figures.

All these factors have resulted in investors avoiding Ghana’s dollar-denominated debt and trying to sell off their current holdings. In such a climate, very few international investors will be willing to lend to the government. In the 2022 budget, the Finance Minister expects to borrow 78% of the expected GH¢37 billion budget shortfall on the domestic market. The balance of the International Monetary Funds’ (IMF) allocation of $1 billion that was given to Ghana to boost economic recovery post-COVID also accounts for 12% of the government’s deficit financing in 2022. This means the government has essentially ruled out borrowing from international capital markets this year, eliminating a key source of foreign exchange which is instrumental in propping up the cedi.

Economic Struggles

GDP growth for Q3 2021 showed a strong growth of 6.6% led by a recovery in the services sector which is finding its feet after COVID had driven overall GDP growth to 0.4% in 2020. The government expects GDP growth to be 4.4% in 2021 and to rise to 5.8% in 2022 and 5.4% in 2023. Economic growth is important because it makes the public debt look much more sustainable thus reducing the interest rates at which government borrows.

The problem of sluggish economic growth has been compounded by a 6-year high inflation rate of 13.9% as at January this year. Food prices rose at a rate of 13.7% while non-food inflation led by housing, utilities and transport rose by 14% compared to January last year. This record rate of inflation puts pressure on the BoG to raise the policy rate which will translate into higher borrowing costs in the economy. Also, high inflation will lead investors to dump Ghana’s cedi-denominated debt as rising inflation means the investment returns no longer look attractive in comparison.

The combination of these economic factors means that the motivation to hold the Ghana cedi by both domestic and foreign investors is low. Investors will be looking to sell cedi-denominated government debt (especially the short-dated ones) and be less willing to take on new debt that government issues unless it offers higher interest rates. (Note that the government will be unwilling to offer higher interest rates given that it is already projected to spend 37% of all 2022 revenue in paying interest on debt.)

Global Factors

Inflation in the US hit a 40-year high of 7.5% in January and the UK also recorded a 30-year high inflation of 5.5%. Eurozone inflation is also up to a record high of 5.1%. The inflation has been driven by high consumer demand meeting supply constraints post-COVID. Energy prices especially have risen substantially due to increasing demand as well as geo-political issues.

In order to address the record inflation, the US Federal Reserve, the European Central Bank and the Bank of England are going to have to raise interest rates. This is bad news for the debt of many developing countries. As interest rates rise in the USA, UK and the EU, investors are going to be more likely to purchase the high-interest, low-risk debt of these economies and focus less on the high-interest rate, high-risk debt of developing countries like Ghana.

Hope for a Recovery

The most likely source of a recovery would be through an improvement in the economic indicators, especially GDP growth. If the country is able to record a higher than expected rate of GDP growth (maybe buoyed by higher crude oil prices) then perhaps the selling pressure on the cedi will ease a bit. The global issues are out of our hands and I doubt how much of a boost improvement in that front will give to Ghana given our debt and fiscal issues. On the fiscal side, government needs to provide details of how it plans to reduce expenditure by 20% if revenue targets are not met. Although the government has totally ruled out going to the IMF, I believe that those cards should not be off the table as it can provide foreign investors with the confidence needed to get the country back on the markets.