Ghana Cedi Worsens over Multiple Economic Slugs
Outlook on Ghanaian cedi depends on the ongoing credit lifeline from the International Monetary Fund (IMF), global rating agencies have noted. Accra is battling a flood of macroeconomic pressures after the authority lost access to external funds.
Latest data on exchange rate movement shows that Ghanaian cedi has depreciated by about 50% of its value from the beginning of the year to date as debt load, fiscal slippage pressures and worsening inflation eclipse economic policies.
A large portion of Ghana’s gross domestic product, GDP, has been mortgaged in local and foreign debt with an expectation of default materializing should IMF deal fails to scale. “We expect the Ghanaian cedi to weaken further over the coming months”, Fitch Solutions said in its Africa Monitor report.
From the beginning of the year to August 30 2022, the cedi has depreciated sharply, having lost 38.1% of its value against the US dollar, caused by increased demand for the dollar following tighter monetary policy in the US and rapidly growing investor concerns around Ghana’s fiscal and external health.
As of August, the cedi is the third worst-performing currency globally, after Sri Lanka’s rupee and Zimbabwe’s dollar, according to Fitch Solutions analysts.
Its deteriorating fiscal and balance of payment dynamics have effectively cut Ghana off from international capital markets since Q4-2021, which has seen bond yields rise to 23.36% from 10.51% at the start of the year.
MarketForces Africa reported that credit rating agencies S&P, Fitch Ratings and Moody’s decided to downgrade the country’s sovereign ratings in early 2022, with the former two having downgraded Ghana again in August 2022.
“These developments have further eroded investor confidence and have put additional downside pressure on the exchange rate.
“Although we expect that the cedi will remain on a depreciatory trajectory in the immediate term, the outlook depends on whether Ghana will reach an agreement with the International Monetary Fund (IMF) and obtain funding in the months ahead”, according to Africa Monitor report.
In July 2022, President Nana Akufo-Addo announced that he had instructed the country’s finance minister, Ken Ofori Atta, to start negotiations with the IMF as part of broader efforts to ‘quicken Ghana’s build back’.
“While we believe that the two parties will reach a deal in Q4-2022, there are downside risks to this view, which would have negative implications for the cedi”, Fitch Solutions said. READ: Ghanaians Ask President to Step Down over Economic Crisis
Analysts’ expectation remains that the Ghanaian cedi will remain on a depreciatory trajectory in the immediate term, the outlook depends on whether Ghana will obtain IMF funding in the months ahead.
Africa Monitor report hints that the most likely scenario is that the Ghanaian government and the IMF reach a deal in Q4-2022, which will improve Ghana’s external and fiscal positions, restoring investor sentiment and easing pressure on the exchange rate in late 2022 and early 2023.
It said a less likely scenario is that an agreement is not achieved, which would see a deterioration in investor sentiment and cause the cedi to continue to depreciate, increasing political risk
Ghana Reaches IMF Deal In Q4-2022 (60% Probability)
This scenario envisages the Ghanaian government and IMF holding negotiations throughout Q322 and reaching a deal in Q422. That said, negotiations might only be completed by year-end as the government had previously said it would not seek support and might be reluctant to make significant concessions.
Analysts said they expect downward pressure on the exchange to soften as negotiations proceed and the cedi to reach GHS11.20/USD by the end of 2022 and GHS11.65/USD by end-2023.
Fitch Solutions believes that an IMF deal would improve Ghana’s external and fiscal positions, restoring investor sentiment and easing pressure on the exchange rate.
Ghana’s fiscal metrics have deteriorated significantly since 2020, due to weak revenue inflows and high interest expenditures, with its budget deficit narrowing only slightly to 8.6% of GDP in 2022 (from 9.3% in 2021), much wider compared to the 10-year pre-pandemic average of a 4.9% deficit.
Under an IMF programme, analysts are expecting that the government would make greater progress on fiscal reforms as the authorities seek to meet the targets to regain market access.
This would most likely include widening the tax base and reducing Ghana’s bloated public wage bill (45.6% of domestic revenue), causing the budget deficit to narrow more substantially to 6.7% of GDP in 2023, according to Fitch Solutions.
It hopes that IMF funding would boost US dollar reserves, limiting risks to Ghana’s short to medium-term external position.
Recall that in Q1-2022, capital and financial outflows increased by 188.7% year on year to USD690 million, primarily driven by net portfolio outflows and were in addition to Ghana’s current account deficit of 1.9% of GDP.
Analysts stated that with Ghana being unable to tap international capital markets to finance the deficit, the country’s foreign exchange reserves have fallen to USD7.7bn (3.4 months of import cover) in June 2022, from USD9.8bn in January 2022, which will continue to limit the Bank of Ghana (BoG)’s ability to defend the exchange rate over the coming months.
However, IMF funding would boost reserves and improve Ghana’s external position in 2023, easing pressure on the exchange rate. “Given that we expect inflation to reach 29.0% y-o-y at the end of 2022, we expect that Ghana would have to tighten monetary policy as a condition of the IMF deal.
“We expect an additional 200 basis points (bps), which will bring the monetary policy rate to 24.00% by year-end in 2022. As the IMF deal comes through, the BoG will continue its hiking cycle, increasing the benchmark interest rate by another 300bps to 27.00% by end-2023.
“We expect that this will bring real rates into positive territory, stimulating capital inflows and providing support to the exchange rate, which will allow the cedi to depreciate at a slower pace over 2023”. Fitch Solutions said under these circumstances, it expects political risk to remain contained, reassuring foreign investors.
“While we expect to see an uptick in protests against austerity measures that would likely be implemented under an IMF programme, we do not believe they will threaten the overall stability of the government”.
Scenario 2: Ghana and the IMF Fail To Reach A Deal (30% Probability)
Analysts hint that there is a chance that Ghana and the IMF fail to reach a deal. Should Ghana not be able to obtain multilateral funding, Fitch Solutions said it expects investor worries to intensify as external and fiscal pressures would mount.
“Under these circumstances, we would expect to see the sharp depreciation of the exchange rate to continue and forecast the cedi to reach GHS12.00/USD by end-2022 and GHS16.50/USD by the end of 2023. Without an IMF deal, we would expect investor confidence to weaken further.
“In the absence of multilateral funding, Ghana would face growing pressures to its balance of payments, weighing on its foreign exchange reserves and compounding investors’ worries about its external position.
“In such a scenario, we believe that the authorities would struggle to attract foreign direct investment. In addition, weakening external conditions would prevent Ghana from re-accessing the international debt market and impede a return of portfolio investors, putting additional downward pressure on the currency”.
Fitch said in such a scenario, Ghana’s fiscal metrics would deteriorate, compounding investors’ concerns. Ghana’s rising public debt stock – which we expect to reach 97.5% of GDP in 2022 – has resulted in a significant increase in interest expenditure.
With 14.1% of its debt (USD0.5bn) maturing in 2023, the ongoing rapid depreciation of the cedi could increase debt servicing costs further. Under these circumstances, strong depreciatory pressures on the exchange rate would further increase prices of imported goods and services, keeping inflation on an upward trajectory and real interest rates very much negative.
Indeed, consumer price growth could far surpass the July inflation rate of 31.7% year on year. In spite of rapidly growing prices, Fitch Solutions would expect limited monetary tightening.
It said given that Ghana would have to rely on domestic debt issuance – due to its inability to access international bond markets – further monetary tightening might be unwelcome as it would further increase borrowing costs, further weakening the government’s fiscal position.
“We believe that such a scenario would cause a rise in political uncertainty in Ghana that could lead to additional outflows. Higher inflation and deteriorating living conditions could result in frequent large-scale protests that demand political change.
“As the ruling New Patriotic Party does not have a majority in the National Assembly, growing dissatisfaction among the opposition with the government’s policies could severely constrain the policy-making process and threaten the stability of the government”, according to Africa Monitor report.
Scenario 3: Mainland China Provides Support (10% Probability)
Under the scenarios provided, the least likely of the three assumes that Mainland China would provide a bailout package after Ghana and the IMF fail to reach a deal. Fitch Solutions analysts would expect to see the sharp depreciation of the exchange rate to continue over the short term and the cedi to reach GHS12.00/USD by end-2022.
However, financial support from China by mid-2023 would likely appease investors, which could see the cedi reach GHS13.50/ USD by end-2023. While Ghana has been West-leaning, borrowing from China has increased significantly over recent years, to USD1.9 billion in 2020 according to the IMF.
As such, there is a chance that – should IMF negotiations fail – Ghana could ask China for support. Analysts said in such a scenario, the repayment could take the form of cash and oil exports, similar to China’s agreement with other economies. Indeed, China has ramped up its oil imports from Ghana over the past decade and most of the Chinese loans have been to Ghana’s energy sector.
While geopolitical tensions would rise in this scenario, financial support from China would improve investor sentiment and limit pressure on the exchange rate in the second half of 2023. #Ghana Cedi Worsens over Multiple Economic Slugs