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Money TalksFranco Valuta: a bitter pill to swallow on top of unending macroeconomic...

Franco Valuta: a bitter pill to swallow on top of unending macroeconomic woes

In April 2021, the government of Ethiopia introduced a new rule to allow Franco-Valuta imports of essential food commodities without foreign exchange permits. It also reversed the rule that requires importers to get verification from the central bank when they import food commodities.

It was not easy for officials at the Ministry of Finance to take such a decision.

Authorities believe allowing the scheme is an acceptable trade-off, given the inflationary pressure that has haunted the country in the last four years, reaching 37.2 percent last month. Economists warned allowing Franco-Valuta would give the parallel market an edge to gain ground in the exchange market, a concern that did not win over officials.

In fact, authorities further relaxed the rule during April this year, lifting the quarter of a million dollar capital requirement needed to be fulfilled by importers to enjoy Franco-Valuta privileges. It was a measure hoped to slowdown the inflationary pressure, even though it failed to arrest the spike in living costs.

Officials say the permit was necessary, given the change in the global market because of the war between Russia and Ukraine. This led to a spike in price of imported commodities and a drastic fall in supply of food items, including edible oil and wheat, two major imports of Ethiopia.

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“There was a debate among us leading the macro-economy team whether it is necessary to allow Franco-Valuta or not,” said Eyob Tekalign (PhD), state minister of Finance, in an interview he and Fitsum Assefa (PhD), Minister of Planning and Development, held with the state broadcaster, the Ethiopian Broadcasting Corporation (EBC).

Fall in the supply of basic commodities is what pushed Eyob and his comrades at the Ministry to push for the realization of the permit. They believed the country is not in a position to avert its supply side problems, evident particularly in the food market and causing inflation to spike to a level unseen in the last 12 years.

There was a time when the forex shortage reached a climax, with the forex reserve reaching to a point where it can only finance one and a half months of imports. “Our capacity to stabilize the market was extraordinarily low,” said Eyob.

Utilizing the forex reserve was unthinkable, as it was already depleted due to the war in Northern Ethiopia and its humanitarian consequences. Substituting the imported commodities was beyond the bounds of the government either, as local manufacturers require foreign currency to import inputs to run their plants.

Local producers were not even able to satisfy 10 percent of the demand for basic commodities, according to Eyob. It is a grim reality that pushed authorities to favor Franco Valuta, knowing its undesired outcome on the exchange market.

“We know there are certain risks but we had to make a choice for a short period of time. The edible oil shortage would not have been solved if it was not due to the Franco Valuta permit, which helped us satisfy 90 percent of the demand for the item,” Eyob said. It, however, did not come without a cost.

The parallel market became a major source of forex for Franco Valuta importers. Birr lost ground fast in the exchange market right after the measure was instituted. A dollar overshot from less than 65 birr to 80 birr in less than a week, widening the gap between the official and the parallel market to over 50 percent.

This undermined the efforts of the central bank to lower the difference to below 30 percent, a rate achieved a few months ago after a suspension was placed on loans to prevent businesses buying USD from the unofficial market using the credit they secured from banks.

Smuggling is also growing too. Discouraged by the low forex retention rule coinciding with the Franco Valuta permit, exporters began to supply their goods to buyers in neighboring countries. It is an easier route to access forex needed to benefit from the Franco Valuta privilege. The volume of coffee, live animal and oilseed destined to the markets of neighboring countries, including Kenya, Somalia and Somaliland increased dramatically. 

It is not only the export market that is being impacted by the action. Banks are also experiencing a fall in remittance. Senders receive a higher premium from the parallel market operators, who rushed to take advantage of the situation, fearing the privilege would end soon. 

The Director of Trade and Industry department at the Ethiopian Economics Association, Amin Abdella (PhD) said “It may help the government to increase the supply of imported goods but remittance would fall. It will encourage importers to charge a higher price, given they secured the forex from their own sources, an action that would fuel the inflationary pressure.”

Figures show an alarming increase in imports of goods using foreign currencies secured from unofficial sources. The overall import bill for the first quarter of this fiscal year was USD 4.1 billion, and for the second quarter, USD 4.3 billion. Both exhibited a 31 percent rise compared to last year’s same period.

The import of goods via the Franco Valuta during this time speaks volume.

Through this scheme, over USD 1.8 billion were imported in each quarter, making up more than 44 percent of the first quarter’s bill and more than 41 percent of the second quarter’s bill. At half a billion dollar, the food and live animal commodity category represents the largest portion of all imports in the Franco Valuta.  

The Minister of Finance, Ahmed Shidie, says the lion’s share of the forex utilized in this scheme had been obtained from Ethiopians living overseas, echoing what his subordinates indicated in a different program.

Amin, a professional who regularly follows the nation’s economic activity, vehemently disagrees. He questioned officials who appeared to have turned a blind eye to the fundamental issue on where the money for the Franco Valuta might be sourced.

“They [traders/importer] are definitely obtaining the foreign currencies from the parallel market,” said Amin, adding operators in the market would be greatly favored by the availability of Franco Valuta. 

It appears officials understand the permit will not stay long. Eyob revealed that they are currently conducting evaluations to determine how long it should remain active.

Amin advises the government to place a ban on the scheme as soon as possible. “It is better to stop imports of non-essential goods and reprioritize goods needed to be imported during forex allocation,” he concluded. 

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