“The US dollar has practically become a currency of choice in most transactions…” (CBL Monetary Policy Framework).
By Nyankor Matthew
The Perspective
Atlanta, Georgia
June 3, 2009
The origin of Afrika’s modern monetary system can easily be traced back to the continent’s colonial oppression by its former European oppressors, who believed that their God had created Afrikans with not only limited intellectual capacity, but to be inferior servants to Europeans. For many Afrikan countries and other former colonial countries, adopting the currencies of their former oppressors was a no brainier, due to little to little to no financial, economic and “intellectual” base after independence. The citizens of these nations – including the educated few – lacked the necessary skills to dismantle the financial and economic system (which they had been excluded from participating) handed to them by their oppressors.
In the case of Afirka’s oldest republic, Liberia, the story is quite similar. For much of Liberia’s existence, its revenues, expenditures and politics were controlled by the United States, and its economic base was concentrated in Rubber via the Firestone Corporation. Firestone took advantage of its status in the Liberian economy by dominating the country financially and economically. At one point both the U.S and British currencies were legal tenders in Liberia, but the arrival of Firestone in 1926 increased the status of the U.S dollar over the British currency, because firestone paid its employees in U.S dollars. The de facto status of the U.S dollar was elevated in December, 1943, by President Edwin Barclay, who adopted the U.S dollar as the sole legal tender in Liberia. This decision by President Barclay sealed Liberia’s financial, economic, and political dependence on the United States.
In a FedPoint document titled “Currency Devaluation and Revaluation”, the U.S Federal Reserve Bank of New York defines “devaluation” as “the deliberate downward adjustment in the official exchange rate…reduces the currency's value”. The FedPoint states that governments devalue currencies due in large part to “interaction of market forces and policy decisions has made the currency's fixed exchange rate untenable. In order to sustain a fixed exchange rate, a country must have sufficient foreign exchange reserves, often dollars, and be willing to spend them, to purchase all offers of its currency at the established exchange rate. When a country is unable or unwilling to do so, then it must devalue its currency to a level that it is able and willing to support with its foreign exchange reserves” . The devaluation of Liberia’s currency in 1998 led to a loss of its parity status with the U.S dollar, and since than it’s been downhill for the Liberian dollar, which is currently trading at 70:1 against the dollar. In highly dollarized economies, devaluation of the domestic currency makes the domestic currency half as expensive as the dollar or the dollar twice as expensive as the domestic currency. Devaluation of the Liberian dollar means that it now takes more of the domestic currency to purchase a commodity priced in U.S dollars. According to a working paper published by the International Monetary Fund (IMF), since the devaluation of the Liberian dollar, it has depreciated on average by five percent a year. As of June 1, 2009, the Liberia dollar is trading against the US dollar at a ratio of 70:1, with the average commercial lending rate listed by the Central Bank of Liberia at 14.30% as of April 2008, and an overall inflation rate of 9.4% at the end of December 2008. However, the 2008 fourth quarter inflation rate for food and beverages stood at 18.4%, about twice the national average.
Liberia is an import dependent nation that lacks the capacity to produce domestic substitutes when the price of imports increase, as a result consumer purchasing power declines. As the Liberian dollar becomes less and less expensive when compared with the U.S dollar, the average Liberian consumer living on one U.S dollar a day suffers, and those who have little to no access to the U.S dollar suffer even more, because they are spending more domestic currency to purchase commodities priced in U.S dollar. Let us assume that a year ago a bag of rice was $30 U.S dollars, and the Liberian dollar was trading at L$57 to US$1, and a year later the same bag of rice is still US$30, but due to depreciation of the Liberian dollar, it has declined L$70 to US$1. This means that that a year ago the average Liberian was paying L$1,710 for a bag of rice, but due to depreciation of the Liberian dollar, the average Liberian is now paying L$2,100 for the same US$30 bag of rice. The situation becomes grim when the price of demanded commodities such as gas increases in price, while at time the domestic currency continues to decline against the dollar, as is currently the case in Liberia. When an import dependent and economically fragile country such as Liberia currency falls in value, its purchasing power weakens, and imports become more expensive, forcing the country to spend twice or more on imports and other services.
Liberia’s fetish for all things American dates back to the founding of the republic, and the American dollar is no exception. There is no denying that the Liberian economy is highly dollarized, and in Liberia, the U.S dollar reigns supreme, and has, and continues to enjoy super star status while the Liberian dollar is relegated to a despised step child status. Our dual currency system has created two classes of citizens in Liberia, those who have access to the coveted U.S dollar, and those who do not; and those who do not are the majority of the Liberian people; as a result, foreign investors, NGOs, Liberian and foreign business owners, and even the average Liberians have very little confidence in the Liberian currency. The Central Bank’s fourth quarter “Financial and Economic Bulletin” revealed that the U.S dollar accounts for 68.1% of Liberia’s total money supply, while the Liberian dollar accounts for 31.9% of the total money supply . According to a 2005 CBL monetary policy document, 80% of the currency in circulation is held outside of the banking system, which makes intervention from the central Bank in stabilizing the exchange rate near impossible.
When a nation is dependent on imports, has little to know domestic industries to produce quality substitutes to compete against imports, and virtually replaces its domestic currency with the currency of another nation, such a nation will always be vulnerable to external economic shocks. This point is supported by an IMF working paper which states, “Empirical evidence on the macroeconomic costs of dollarization is mixed: while there is no clear evidence that increased dollarization significantly reduces the effectiveness of monetary policy, there is an emerging consensus that highly dollarized financial sectors may be more vulnerable to shocks…The small domestic currency component of the monetary base makes it difficult to control monetary growth, which reduces the effectiveness of monetary policy as a tool to stabilize the economy”.
I applaud the president for revisiting the discussion on Liberia’s distorted dual currency system, and the economic effects of this system on the lives of the Liberian people. I am of the opinion that Liberia does not currently have the capacity, financially as well as economically, to de- dollarize. Liberia’s economic and monetary umbilical cords are tied to the U.S dollar, and have been this way from the founding of the republic. It would be unwise at present to fully dollarize or dedollarize. However, there are policy and monetary steps that should be taken by the Central bank and the government of Liberia to strengthen the financial system and the Liberian economy.
The issue of dual currency in Liberia and the dominance of the U.S dollar in Liberia need to be in the forefront of the financial and economic policy debate moving forward. There is no denying that the U.S dollar has a de facto status in the Liberian economy, but the issue of fully dollarizing puts Liberia’s sovereignty at risk, and this sentiment is echoed by the CBL in its policy framework, when it said, “The question that is now being asked in many quarters is whether Liberia should adopt a full dollarization… Full dollarization wipes away control of monetary and exchange rate policy from the dollarizing country and the ability of the central bank to print banknotes ceases to exist and this, in turn, limits the bank’s lender-of-last resort function. The country loses seigniorage, abandons its national currency which is a symbol of sovereignty and nationhood” (Monetary Policy Framework of the Central Bank of Liberia).
At the end of the day, the government of Liberia and the Central Bank will have to get off the fence on this issue, and put in place the necessary policy tools that will lead to a gradual process of de-dollarization. The IMF working papers says it best. "...Once it has established a track record of economic and political stability, Liberia could consider micro measures to encourage lending in local currency and the purchase of local currency assets. The legal tender status of the U.S. dollar could be withdrawn if that would not weaken financial sector stability or cause capital flight. Effective communication of a policy strategy that recognizes that dedollarization is a gradual market-driven process will increase the probability of achieving sustained dedollarization without adverse macroeconomic consequences”( “Dedollarization in Liberia—Lessons from Cross-country Experience”, Lodewyk Erasmus; Jules Leichter; Jeta Menkulasi).
First and foremost, the central bank needs to promote exchange-rate stability and policies that will preserve the Liberian consumers’ purchasing power. The Liberian government and the banking sector must encourage the usage of the Liberian dollar for all transactions, big and small; and it starts with the government of Liberia paying salaries in Liberian dollars instead of U.S dollars. It is unacceptable that 80% of the currency in circulation is outside of the banking system. Hence, it is imperative for our banking sector, in conjunction with Central Bank, to find creative and innovative ways to bring those individuals and businesses operating outside of the formal sector into the formal financial sector. The government of Liberia must begin to seriously explore ways to create a manufacturing sector that can produce domestic substitutes to compete with high cost foreign imports, as well as minimize the country’s dependence on imports. The issue of dual currency Liberia is more than just dollar and cents; it is about national pride and sovereignty.
© 2009 by The Perspective
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