Inflation seems to be rearing its ugly head again, coming at
7.2 percent in September the highest its been in more than two years. Business
Vision’s Paul Busharizi sat down with Bank of Uganda director for research Adam
Mugume to talk about the disturbing trend. Below are some excerpts from the
interview.
Q.How would you assess this year’s attempts to bring
inflation under control?
A. When we started tightening monetary policy in April everybody
thought including IMF they thought we were crazy. Inflation was two percent
very many people including Ministry of Finance were really not happy with BOU,
because they were saying how do you start monetary policy when inflation is two
percent? But we insisted we said our forecasts indicate inflation was going to
rise.
By then exchange rate was not as volatile as we saw in the last three months. What was driving up forecasts by then was the outlook on the shilling. Because five to six months ago we knew the shilling would fall because we were looking at trade balance, we were looking at the possibility of US tightening monetary policy, but the biggest challenge was the Balance of Payments outlook which was really negative. We said exchange rate would depreciate, after depreciation we would have inflation and any slight food price increase would lead to a big increase in inflation that’s when we started tightening. Our forecasts have been impressive and our pre-emptive action has worked.
By the time we started in the monetary policy meeting we
said if we didn’t tighten inflation by December would be 15 percent.
Q. What particular aspects of Balance of Payments were hurt?
A. All inflows were impacted. FDI, workers remittances,
exports, tourism were declining. Imports were continued increasing apart from
oil that have been declining but the others were still rising. Private sector
imports except oil were rising. Imports were rising at 5 percent on a quarter
to quarter basis. We knew the exchange rate was going to decline.
We know normally this months of September to November
seasonally we normally we have high food prices because this is the planting
season. We start harvesting in December and if rains are good we have a bumper
harvest in January and February. Our worry is we are projecting a problem if
the weather patterns are bad, El Nino affect food crops and the good harvest in
January doesn’t come and then we have a spike in food prices that is where we
will have a bit of uncertainty. If that happens then what we project inflation
coming down will not happen and will call for more tightening.
Q. SO why not wait
for inflation to rear its head and then act? You might make a mistake in
premeption?
A. You can’t allow inflation to spike. Once inflation sets
in it will take you 12 months to bring it down. If you delay in handling it, it
will take you 12 months to bring it down. That is why you have to start much
earlier because monetary policy must be pre-emptive if you wait until the thing
has come you are wasting your time.
Q. The talk is that its campaign money drivng up inflation?
A. We haven’t seen it. People who say there is a lot of
money in this elections we haven’t seen it because even commercial banks are
crying they are saying they have no money. If it is money with one or two
individuals it can’t cause inflation. But commercial banks are telling you they
don’t have money. Because we have been tightening, the source of currency is
BOU and also finance has been tightening. Flows from government have been very
tight that’s why you see banks are borrowing form the central bank,
rediscounting treasury bills so you see a lot of tightness in credit.
Q. So in fighting inflation you are reducing growth?
A. You have a trade off. That is why we did it gradually so
that the impact in private sector is not so sharp. In 2012 when we increased
the policy rates so sharply in a short period its impact on activity was so
dramatic that you move from a growth of 9.7 to 3.2 percent within a year’s
time. We did not want a repeat. We
wanted a gradual process so activity slows down but does not collapse. If we
have a growth of 5.5 percent and we have inflation of between 7 and 8 its
better than having inflation of 15 percent because it becomes very hard to
manage.
Once inflation takes hold even the growth you are trying to
stimulate will not take hold.
"Growth has been affected by about 0.5 percentage points. At the beginning of the year we had projected to have growth of 5.8 to 6 percent but now we think about 5.2 percent is more realistic...
Q. As a result the yields on government paper are shooting
up, crowding out lending to the private sector?
A. treasury bonds and bills yields have risen sharply but a
combination of many factors not all related to inflation are at play.
I think there are some economic agents, those who
participate in the auction they believed the government was so desperate for
cash given the budget, which was misunderstood to be sh24trillion then
government would be forced to come to the markets. The participants in the
market are not convinced that government is serious, they think government is
still going to debate the budget so they would rather wait and see. They are
more interested in 91-days, they think sometime down the road government may
want more money and come to the market so interest in longer term bills is low
Government has to make it clear that they are not desperate
to take this money. They have passed the budget, other than borrowing in the
range of 25 percent you would rather suspend some of the activities, it doesn’t
make sense to borrow as government. If government borrows at 25 % then the
private sector will be borrowing at 35 percent which is not good.
Q. SO what are the economic growth prospects?
A. Public investment will stimulate the economy, but also
private sector credit has not slowed down as of August, it had grown by 23
percent on an annual basis. But some would say there is some exchange rate
impact since some loans are in hard currency but even if you look at the
shilling loans they grew 15 percent which is healthy. Overall we have not seen
a slowdown in activity that’s why we believe that private sector investment,
those already on the ground will not necessarily cut down on investment, we
will not necessarily get new FDI but the ones already in the market will not necessarily slow down
because of the monetary policy tightening, we believe private sector credit
will remain strong, investment will remain strong, will decline a bit but not
stop and then if weather conditions remain conducive then agriculture also
should really continue to grow.
