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Economic implications of foreign exchange rationing in Ethiopia:

Author

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  • Dorosh, Paul A.
  • Robinson, Sherman
  • Ahmed, Hashim

Abstract

Ethiopia enjoyed remarkable economic growth from 2004/05 to 2008/09, in large part due to increases in foreign transfers and capital inflows combined with expanded domestic credit to fund major increases in private and public investments in infrastructure and housing. However, this rapid growth was accompanied by a major appreciation of the real exchange rate (by 34 percent between July 2004 and July 2008) that reduced incentives for domestic production of exportables and non-protected importables. Moreover, major external shocks to the economy (including increases in world prices of fuel in 2007 and early 2008) exacerbated foreign exchange and macro-economic imbalances. Beginning in March 2008, access to foreign exchange for imports has been restricted (rationed) to avoid excessive drawdown of foreign exchange reserves. Computable General Equilibrium (CGE) model simulations suggest that there are substantial adverse efficiency and distributional effects of foreign exchange rationing. Foreign exchange controls result in the creation of large rents that likely accrue mainly to nonpoor households. At the same time, foreign exchange controls reduce economic efficiency so that real incomes from factors of production (land, capital and labor) decline, as do overall household incomes (except for those who gain large rents). Moreover, foreign exchange controls inhibit depreciation of the real exchange rate, and thus slow or prevent reversal of the real exchange rate appreciation between 2004/05 and 2007/08, which has resulted in major price disincentives for exports and production of import substitutes. The modeling results presented here are not meant as definitive estimates, but rather as indicators of the broad magnitudes of the effect of the policies simulated. Further efforts are needed to refine the model simulations so as to include the effects of changes in world prices and to assess dynamic effects of shocks and policies on growth and income distribution. Nonetheless, the broad policy implications of this analysis are clear. There are substantial costs to both foreign exchange rationing and real exchange rate appreciation in terms of growth (reduced incentives for production of tradables) and income distribution (large rents accruing to the non-poor). Policy reforms need not involve full liberalization of the foreign exchange market, however. Various versions of managed floats and controls in foreign capital markets exist that can gradually reduce economic rents, improve incentives for exports and increase overall economic efficiency. Indeed, policies since late 2008 have effectively reduced the earlier appreciation of the real exchange rate. To recover more fully from the effects of the adverse external price and capital inflow shocks of 2007 and 2008, and to sustain the rapid propoor growth of recent years, though, further measures to restore real price incentives to exports, and reduce rents and economic inefficiencies arising from import rationing should be considered.

Suggested Citation

  • Dorosh, Paul A. & Robinson, Sherman & Ahmed, Hashim, 2009. "Economic implications of foreign exchange rationing in Ethiopia:," ESSP discussion papers 9, International Food Policy Research Institute (IFPRI).
  • Handle: RePEc:fpr:esspdp:9
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    References listed on IDEAS

    as
    1. Dorosh, Paul A. & Sahn, David E., 2000. "A General Equilibrium Analysis of the Effect of Macroeconomic Adjustment on Poverty in Africa," Journal of Policy Modeling, Elsevier, vol. 22(6), pages 753-776, November.
    2. Dorosh, Paul A. & Thurlow, James, 2009. "Implications of accelerated agricultural growth on household incomes and poverty in Ethiopia:," ESSP research notes 2, International Food Policy Research Institute (IFPRI).
    3. repec:fpr:esspwp:2 is not listed on IDEAS
    4. Löfgren, Hans & Harris, Rebecca Lee & Robinson, Sherman, 2001. "A standard computable general equilibrium (CGE) model in GAMS," TMD discussion papers 75, International Food Policy Research Institute (IFPRI).
    5. Dorosh, Paul A. & Thurlow, James, 2009. "Implications of accelerated agricultural growth on household incomes and poverty in Ethiopia: A general equilibrium analysis," ESSP discussion papers 2, International Food Policy Research Institute (IFPRI).
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    Citations

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    Cited by:

    1. SENBETA, Sisay Regassa, 2013. "Foreign exchange constraints and macroeconomic dynamics in a small open economy," Working Papers 2013023, University of Antwerp, Faculty of Business and Economics.
    2. Yami, Mesay & Meyer, Ferdi & Hassan, Rashid, 2016. "Testing price leadership role in major regional maize markets in Ethiopia," 2016 Fifth International Conference, September 23-26, 2016, Addis Ababa, Ethiopia 249439, African Association of Agricultural Economists (AAAE).
    3. Dorosh, Paul A. & Rashid, Shahidur, 2012. "Food and agriculture in Ethiopia: Progress and policy challenges," IFPRI books, International Food Policy Research Institute (IFPRI), number 978-0-81224-529-5 edited by Dorosh, Paul A. & Rashid, Shahidur.
    4. repec:ags:eeaeje:258858 is not listed on IDEAS
    5. Ansah, Isaac Gershon & Gardebroek, Cornelis & Ihle, Rico & Jaleta, Moti, 2014. "Analyzing Developing Country Market Integration with Incomplete Price Data Using Cluster Analysis," 2014: Food, Resources and Conflict, December 7-9, 2014. San Diego, California 197169, International Agricultural Trade Research Consortium.
    6. Ansah, Isaac Gershon K. & Gardebroek, Cornelis & Ihle, Rico & Jaleta, Moti, 2016. "Got data too poor for time series analysis? Can cluster analysis be a remedy? Studying wheat market integration in Ethiopia," 2016 Fifth International Conference, September 23-26, 2016, Addis Ababa, Ethiopia 246442, African Association of Agricultural Economists (AAAE).
    7. Dorosh, Paul A., 2012. "The evolving role of agriculture in Ethiopia's economic development," IFPRI book chapters,in: Food and agriculture in Ethiopia: Progress and policy challenges, chapter 11 International Food Policy Research Institute (IFPRI).
    8. Ansah, Isaac & Gardebroek, Cornelis & Ihle, Rico & Jaleta, Moti, 2015. "Analyzing Developing Country Market Integration using Incomplete Price Data and Cluster Analysis," 2015 Conference, August 9-14, 2015, Milan, Italy 210954, International Association of Agricultural Economists.

    More about this item

    Keywords

    foreign exchange rationing; Computable General Equilibrium (CGE) model; foreign exchange controls; Prices; economic growth; import rationing; Public investments; real exchange rates; Income distribution; Agriculture; Development strategies; Globalization; Markets;

    JEL classification:

    • D58 - Microeconomics - - General Equilibrium and Disequilibrium - - - Computable and Other Applied General Equilibrium Models

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