Currency Changes and Economic Stabilization: The Ethiopian Experience

Published on 29th September 2020

Though the currency is not backed by gold or silver, Ethiopians have been reasonably using birr banknotes and coins as a medium of exchange, as a unit of account, and for storing wealth.  As a medium of exchange, the Ethiopian birr serves for buying and selling goods and services. As a unit of account, the birr is used to set a common standard for measuring relative worth of goods and services. As a store of value, the birr is commonly used as the most liquid asset for retaining wealth.

Prior to the Ethio-Eritrea conflict that occurred in 1998, the Ethiopian birr at the time was demonetized and subsequently monetized as a new currency. Currently, the Prime Minister of Ethiopia, Abiy (hereafter referred to Abiy) has spent US $101.2 million to redesign the symbols in the face value of the existing birr notes of 10, 50, and 100; mint coins; and print a new 200 birrnote. As unveiled by Abiy, the new currency is presumed vital to withstand cash hoarding, restrain illegal trade activities,  and curtail the illicit financial flows that have seriously shattered Ethiopia’s economic stability (Tadesse, September 14, 2020).

To fine-tune the implementation of the new currency, Abiy’s Government has set a three-month window for the holders of the old currency to exchange it into new currency notes through intermediary banks (Mbewa, Sep 14, 2020). Given the unfolding of the new currency in Ethiopia, the aim of this paper is to analyze the economic rationale and understand why the original legal tender banknotes and coins were replaced.  

Cash Hoarding:  The main drivers of cash hoarding are opportunity costs, precautionary motive, and possible stressful situations. Ethiopia’s economy is by and large cash-based. That is, despite banks in Ethiopia having attempted to unfold credit cards and checking accounts, most Ethiopians heavily depend on cash transactions while undertaking business activities. In addition, people hoard birr currency at home because the strategies forwarded by banks to attract those who might consider depositing their cash assets into a savings account have been relatively dismal. For example, it might be convenient to keep money in banks. But, as decided by the Monetary Committee of the National Bank of Ethiopia, while the rate of inflation that prevailed in the country was more than 20 percent per year, the nominal interest rates that banks pay to depositors in savings account was set to just 7 percent (Trading Economics, 2020).  Thus, the reason many Ethiopians would like to keep their cash assets at home is because the opportunity cost (inflation rate and leather shoe time) that depositors incur outweigh the nominal rate interest rate that they would obtain from banks.   

It needs to be mentioned that due to the devastating effects of the COVID-19 pandemic, many Ethiopians have been forced to store their negligible future savings intended for emergencies at home. However, the banks are partially responsible for this—as the virus spread rampantly in Ethiopia, commercial banks set withdrawal signals on bank deposits, giving a clear signal to many potential depositors that they’d need to stash their money at home because the banking institutions in Ethiopia were facing liquidity problems.

More importantly, Ethiopian depositors have been refraining from keeping their financial assets in savings accounts because, more recently, Ethiopia has been facing insurmountable mass unrest, human rights violations, and political instability. In short, in recent years, no day in Ethiopia has passed without mass demonstrations and political upheaval.  As a result, the Abiy’s Government has put almost every region under federal security forces-led command posts. With no regard for the rule of law and the Constitution, the ruling regime has been attempting to strengthen its own illegal party by depriving, emasculating, and not allowing other political parties to campaign to their constituencies.

Illegal Trade Activities: The Foreign Service Journal (October 2018) narrates that illicit trade composed of tangible (drugs, human beings and weapons) and intangible items that may be sold in cyberspace (for example, passwords, malware, computer data and funds stolen from bank accounts) is a spreading threat to the global community. Though this kind of dreadful activity is very challenging and requires carefully designed operations to effectively handle, exclusively equating these horrible acts with the currency changes made in Ethiopia hardly make sense. Had it prudently planned, the US $101.2 million that Abiy spent on printing currency and minting coins could have been used to create sustainable and productive jobs for unemployed youth or to create new currency funds that could have been used as a possible stimulus package to stimulate the Ethiopian citizens suffering from the COVID-19 pandemic.     

Illicit Financial Flows: As stated by the African Development Bank (2018), criminal and illicit economies such as counterfeit currency, black market (hawala), and medications can result in both direct and indirect negative impacts on a country. As mentioned above, rather than spending more than US $101.2 million on printing new currency and minting of coins, as well as on endorsing the law enforcement agencies to confiscate Ethiopians’ private saving amounting to more than 1.5 million birr, it would have more prudent to retrain the armed forces to professionally handle the most conspicuous inappropriate financial flow dealings in the country. This would allow the remaining balance of the currency to be wisely utilized toward stimulating investment and creating an entrepreneurial climate.

Given that currency reform alone would not create financial stability and resolve all economic problems (Lonnberg, 2013), instead of giving false information to the Ethiopian people that under Abiy’s leadership,  Ethiopia’s exports have increased by 14 percent and Ethiopia’s external (sovereign) debt has substantially declined from 35 to 25 percent of GDP (Tadesse, 2020), it would have been worthwhile for Abiy to given his advisors a degree of freedom and carefully incorporate Ethiopia’s current rate of inflation (which is over 20%), real interest rates (-13%), unemployment (over 20%), and Real GDP growth (less than 2%), and assess the reverberating political instability that is prevailing in the country to rigorously map out the need for currency changes in Ethiopia.

Stated differently, had the policies and processes behind the currency reform been careful mapped out, the currency changes that Ethiopia has now implemented would have achieved notoriety from both economists and policy makers, and more importantly, would have also gained the confidence of the Ethiopian public.   

If Abiy was not thinking about differentiating himself from the previous Ethiopian People’s Revolutionary Democratic Front (EPRDF) regime and starting his own new monetary era, he would have developed a well-thought-out theoretical framework and designed clear-cut strategies before officially unveiling the implementation of the new currency. For example, software needed for the smooth operation of ATM machines so that they could efficiently deliver new currency to depositors could have been planned ahead of time. Now, it has become nerve-wrecking for debit card holders to withdraw from the ATM machines and not know if they will be receiving the demonetized old currency or the new currency notes.

Given this, one would not hesitate to argue that in the name of the new currency, Abiy is trying to legitimatize his regime, maintain his personal dominance, and differentiate himself from the EPRDF by giving a completely new name to the currency and thus mark the start of a new monetary era. As clearly articulated on public broadcasting stations, to fulfill his political decision, create political havoc, and gain the support of (bribe) the military force, Abiy has encouraged law enforcement agencies and entitled them to receive half or more of the 1.5 million birr provided they confiscate it from Ethiopian households and business people hoarding it as cash in their safe deposits.

As shown above, the currency changes in Ethiopia were framed on irreconcilable and contradictory situations. Being symbolic, the new currency that is now in circulation in Ethiopia is specifically tailored for the self-aggrandizement of Abiy’s regime. Thus, since Abiy’s monetary model didn’t depict current Ethiopia’s reality and failed to take into consideration the global economic impact of the COVID-19 pandemic, the notes will remain, but it is very unlikely to stabilize and create a positive impact on Ethiopia’s economy.

By Asayehgn Desta, Sarlo Distinguished Professor of Sustainable Economic Development

Courtesy: Aiga Forum


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