9 major causes of the persistent depreciation of the cedi against major trading currencies

Over the past few months, the Ghanaian cedi has been experiencing persistent depreciation against major trading currencies, raising concerns and questions among analysts, opposition, and citizens about the underlying causes.

In a study by renowned Banking Consultant, Dr Richmond Atuahene, titled ‘Navigating the Rapid Depreciation of Local Currency: ‘Finding Long, Lasting, Workable And Achievable Solutions’, the report outlined several factors including loose fiscal and monetary policies, periodic external shocks, limited intervention by the Bank of Ghana under the IMF program, and Ghana's heavy dependence on commodities.

According to Dr Atuahene, understanding these factors is crucial for addressing the ongoing currency depreciation and stabilising Ghana's economy.

The report shared with GhanaWeb Business explores nine key factors contributing to this decline:

1. Ghana’s dependence on commodities

According to the renowned banker, one of the primary causes of the devaluation of the local currency is Ghana's excessive reliance on commodities, which account for more than 80% of its exports and include gold, cocoa, mineral resources, and oil.

He explained that persistent trade and current account deficits resulting from this dependency have been made worse by unfavourable external trends and a lack of economic diversification.

“The marginal returns of natural resources like gold had contributed to the persistent depreciation of the local currency. Lack of economic diversification not only weakens the foundation of Ghana’s structural transformation, it also makes her particularly vulnerable to sudden external shocks and slows their development,” he noted.

2. BoG’s failure of not tracking, tracing and capturing the foreign remittances

The depreciation of the local currency during the last four years has been caused by the government and the Bank of Ghana's inability to track, trace, and capture foreign remittances.

The study stated that significant disparities were found in the data from the Bank of Ghana's audited financial accounts for 2019 to 2022 and the World Bank's figures on the nation's remittances for the same time frame. According to reports, Ghana has lost around $9 billion in remittances from abroad since the Payment Systems and Services Act 2019 Act 987 was passed and newly licensed money transfer services were introduced.

3. Decline in foreign direct investment

The report revealed that the Ghanaian Cedi has depreciated against major currencies due to a decline in foreign direct investment, with inflows dropping by 39% in 2022 to $1.472 billion adding that “greenfield projects remained flat while international project finance and Mergers and Acquisitions deals declined.”

The Ghana Investment Promotion Center (GIPC) also reported a 16% drop in investment projects in the first half of 2023, with China leading the way with $211.89 million in investments.

4. The rising public debt

The increasing public debt, decreased donor funding, falling cocoa production, and increased demand for imports have all contributed to the current currency decline. The fundamental causes of the return to a debt crisis are thus continuous reliance on commodity exports, as well as borrowing that is not responsible enough, resulting in new debts that do not generate sufficient revenue to be serviced. At the moment, Ghanaians bear the whole expense of the crisis.

5. Ghana’s fiscal and monetary policies have been relatively loose

Ghana's loose fiscal and monetary policies have led to significant depreciation in the exchange rate over the past four years. Excess liquidity generated by government spending and money creation reduces the value of the domestic currency, which is easily funnelled into the foreign exchange market. Weak macroeconomic fundamentals and repeated periods of overspending have contributed to the persistent depreciation of the Ghana Cedi.

6. The exchange rate being subject to intermittent shocks to the country’s terms of trade

Periodic shocks to the nation's terms of commerce and total net external position have affected the currency rate. For example, Middle East geopolitics about oil supply and Russia/Ukraine War concerns over grain supply.

Further domestic risks include the ongoing uncertainty around the direction of the currency rate, significant domestic funding needs, and policy slippages resulting from the upcoming general elections at the end of 2024. Additionally, the forecasts are based on a safe external environment.

This means that Ghana would suffer from increased import inflation and risk aversion due to regional conflicts becoming more intense or if the war in Ukraine, the conflict between Hamas and Israel, and commodity price volatility continued as stated in the IMF, Country report, 24/30, January 2024.

7. BoG’s limited intervention approach in the FX market under the current IMF program

The recent local depreciation versus major trade currencies appears to have been accelerated by the Bank of Ghana's limited intervention in the FX market under the current IMF programme. The Bank of Ghana would eventually conduct all of its foreign exchange interventions through auctions created per best practices and adopt an FX reference rate computation mechanism that completely reflects the wholesale market rate, according to the IMF Country Report (24/30, 2024).

8. The adverse effects of excessive debt dynamics in 2022

The detrimental effects of Ghana's unsustainable debt dynamics in 2022 intensified the local currency's rapid depreciation by stoking doubts about the country's trustworthiness and leading to a downgrading of Ghana's credit ratings. The sharp decline in the fiscal and external positions, the weakening of economic confidence due to slower GDP growth, and the worsening dynamics of public debt were the main causes of the currency's wild decline in 2023–2024. Due to these unfavourable debt dynamics, Ghana's credit ratings were reduced in 2022 due to growing unfavourable opinions about the country's creditworthiness.

9. Excessive Fiscal Expansion in the run-up to the 2024 Presidential and Parliamentary Election

In hindsight, the 2024 Presidential and Parliamentary Election in Ghana is expected to see excessive fiscal expansion and speculation surrounding the stability of the Cedi. The loss of fiscal and monetary control in previous elections led to economic imbalances, causing a decrease in the cedi's value and causing inflation. Investors' concerns about the government's ability to maintain fiscal discipline and shifting preferences towards dollar assets contributed to the weakening of the domestic currency.

“…Given Ghana’s history of fiscal slippages in election years during the Fourth Republic. Prudent investors seemed to have shifted preferences away from cedi to dollar assets and contributed to the weakening of the domestic currency,” parts of the report read.

NOQ/SA