Ghana’s Central Bank raised its policy rate to 250 basis points to fend off inflation.
The government Economic Management Team held a crunch roundtable meeting over last week, to discuss the worsening economic situation in the country.
Information gathered about some resolutions of the meeting includes cutting expenditure to bring down the fiscal deficit to 7% as part of the measures to tame growing macroeconomic imbalances.
First, I would like to tackle the Central Bank’s move of taming inflation and also examine the government expenditure cuts and its effects on the economy.
The lifeblood of every economy is the government’s monetary system. The vehicle used for financial transmission into the economy is the Banking system or the financial institutions. Once that area is mismanaged, the economy would suffer from financial crisis, and the ripple effects of financial crisis leads a country into economic crisis.
Though hiking and lowering Interest rates are part of the instruments used by the monetary policy system, the structure of the economy would decide the potency such a tool when it is deployed.
To control inflation in Ghana using rates hikes could be likened to having a boxing bout with your own shadow.
While the policy instruments could be more effective in an economy like that of the United States, same cannot be said for the Ghanaian economy.
In the United States, 53 trillion dollars of money in circulation is made up of credit to its citizens, and this account for 94 percent of financial transactions. Physical cash in circulation is 3 trillion dollars, accounting for 6 percent of cash transactions. This tells you that once the policy rate is increased, it has immediate effects on almost the entire US economic system.
On the contrary, total bank credit in Ghana as at June 2021 accounted for 38 percent or 47.4 billion cedis of broad money supply into the economy.
Total broad money supply was 121.89 billion cedis within the same period, therefore floating cash constituting 62 percent or 74.5 billion cash is neither credit transactions nor has any direct relationship with Interest or policy rate.
So the question is how does Interest rate hikes affect the floating cash of 74.5 billion cedis in the economy as a measure of taming of inflation???
Copying monetary policy tools blindly without recourse to the economic structure could lead to economic consequences. The negative effects by the heavy lifting of the Ghanaian Central Bank by hiking Interest rate to 250 basis points could lead to;
- Higher funding cost to banks which are already weak and struggling
- The fixed income investments of the banks would become worthless as a result of hikes in policy rates
- There would be lower loan demands, thereby weakening the profitability of the banks
- There would be deterioration in loan quality of the banks, thereby creating a huge non- performing loans
- The banks are likely to shift to lower risk assets thereby reducing fee income focus and truncate credit transmission, which can strangle the economy.
The bare truth is that the policy hike by the BoG would not achieve reasonable impact of taming inflation because of the structure of the Ghanaian Monetary system. Rather, it will weaken the Ghanaian financial system, and create catastrophic economic crisis, and the major victims would be Ghanaian businesses.
The Ghanaian cedi is down over 15 percent Year to Date (YTD) against the US dollar, making it one of the World worst performing currencies among emerging mainstream frontiers this year, trailing only Russia and Sri Lanka.
Government unthinkable decision of cutting down spending would reduce demand for goods and services by the citizens, thereby slowing growth and recovery!
The question I ask is, what does the government economic management team intend to achieve???
What is the end-game???
See you soon.
The Author is an External Monetary Advisor
