CEPA’s Mid-Term Report on Assessing the Completion of the Three Year Stabilization Program and the Supplementary Budget of GoG 2012


Economic Growth

Overall GDP growth is projected to slow down from 14.1 percent in 2011 to 8.5 percent in 2012 a sharp decline of 5.6 percentage points. Subsequently, CEPA projects that growth would rebound to 10.5 percent in 2013 and then fall back to 9.0 percent in 2014.

The non-oil sector is projected to grow at a trend growth rate of 8.6 percent over the 2011 2014 period. The volatility in the overall growth projections is the result of changes in expected production levels of oil from the Jubilee oilfield. Due to technical difficulties experienced in 2011, production from the Jubilee oilfield has suffered some setbacks. Certain remedial strategies have been implemented which are expected to raise production levels from 70,000 bopd at end-2011 to 90,000 bopd by end 2012. However, while higher in absolute terms than the production level reached in 2011, reckoned in units of non-oil GDP, the contribution from oil in 2012 to overall growth drops from 5.5 percent to 0.2 percent. With the relatively lower contribution from oil, overall growth declines from 14.1 percent in 2011 to 8.5 percent in 2012.

In 2013, oil production schedules are expected to improve further, reaching a plateau of 120,000 bopd and remaining at this level till subsequently. The increase from 90,000 bopd in 2012 to 120,000 bopd in 2013, when estimated as a share of non-oil GDP, raises the contribution from oil and lifts overall GDP from 8.5 percent in 2012 to 10.5 percent in 2013. In 2014, with oil production remaining at 120,000 bopd, there will be no change in oil production and hence its contribution to overall growth would be zero. Overall GDP is, thus, projected to fall from 10.5 percent to 9 percent.

With oil production expected to recover by the end of this year, policy must be aimed at avoiding the Dutch Disease. Work at CEPA strongly suggests that the very discovery and production of oil have naturally led to a structural change in the economy. Increased foreign exchange inflows from net oil exports could result in a real appreciation of the exchange rate implying a loss of international competitiveness of the non-oil sector. Consequently, steps must be taken to obviate this problem specifically to reduce domestic production costs and increase labor productivity.

The BoG can prevent this appreciation by intervening on the market to buy up the foreign exchange building up its international reserves. Such an intervention must, however, also be sterilized the cedis injected into the system to buy up the foreign currency must be mopped up to prevent inflationary pressures on the cedi.

In this regard, the successful completion of the three year arrangement with the IMF under Extended Credit Facility presents a number of advantages to Ghana. With the final disbursement of US $178.74 million committed in July 2012, the BoG saw a boost to its gross international reserves (GIR) which has enhanced market perceptions about its ability to defend the cedi. This has contributed to alleviating depreciation fears and consequently has lowered the cost of borrowing by Government.

The second 5 year bond issued by the BoG on 23 August 2012 was over-subscribed; and at a lower average yield of 23 percent compared to an average yield of 26 percent from the previous issue.

Ghana s US $750 million Eurobond is already benefiting from these developments. In August 2012, the yield on the Eurobond fell by 13 basis points to 5.359 percent the lowest rate since March 28, 2012. Analysts at FM Capital Partners Ltd. have been quoted as saying the the country still has net foreign currency reserves, estimated at $2.78 billion, which is more than sufficient for a $750 million bond.


Fiscal performance in 2011 was good, supported by a strong revenue performance and lower cash expenditure. With the exception of net arrears clearance, all quantitative performance criteria in the three-year stabilization programme agreed with the IMF were met.

The payment of carry-over expenditures from 2011 of about 0.7 percent of non-oil GDP has contributed to fiscal pressures in 2012. Additional pressures have come from the higher than budgeted public sector wage increases and the re-emergence of energy subsidies. A base pay increase of 18 percent was negotiated with civil service unions in February 2012 raising the wage bill significantly above the budgeted amount. Domestic pump prices that were raised by 15 percent in late December 2011 were reversed by 3 percentage points for fear of social unrest. As a result, by late May 2012, domestic pump prices were about 15 percent below their cost-recovery level implying a monthly subsidy of about GH?60 million. These additional expenditures threaten to widen the primary deficit by the equivalent of 1.9 percentage points of non-oil GDP.

With the increased risks to macroeconomic stability, policy needs to be tightened if objectives are to be met. In light of this, the Government has re-committed to maintaining the primary deficit of 0.1 percent of non-oil GDP on commitments basis. This implies a fiscal adjustment of 1.8 percentage points of non-oil GDP from the primary deficit estimate of 1.9 percent of non-oil GDP in 2011.

To achieve the primary deficit target the Government has agreed to expenditure cutbacks through reductions in administrative costs and domestically-financed capital spending and improved tax collection efforts. The Government also expects to generate savings through the ongoing pension and payroll audits that could offset the permanent cost of the pay increase. These savings, however, are expected to materialize in the second half of the year. If fully reached, they promise to lower the overall wage bill permanently by an estimated 15-20 percent.

It is CEPA s view that the primary deficit target of 0.1 percent of non-oil GDP can be achieved. However, the projected savings and cutbacks in expenditure are not a reliable means of getting this done they have proved over optimistic and only result in payment arrears. A more credible means of achieving the required fiscal adjustment of 1.8 percentage points of non-oil GDP is through the sustained efforts of the Ghana Revenue Authority (GRA).

Tax collection and administration efforts paid off well in 2011. The non-oil tax revenue as ratio to non-oil GDP rose from 13.2 percent in 2010 to 16.3 percent in 2011 a remarkable jump of 3.1 percentage points of non-oil GDP in one year. Government has targeted further improvements 0.4 percentage points of non-oil GDP in 2012. By CEPA s analysis, however, this estimate is unduly conservative. What we project is an additional 1.3 percentage points of GDP to 18.0 percent of non-oil GDP for this year.

Improvements in tax revenue collection stem from successful reforms culminating in the establishment of the Ghana Revenue Authority, strengthened customs administration, the streamlining of tax exemptions, improved tax administration and upgrading in information technology.

The new tax measures introduced in the 2012 Budget are expected to yield more than had been originally projected. For example, the establishment of a uniform regime for capital allowances and the raising of the corporate tax rate from 25 to 35 percent are expected to yield an additional 0.3 percentage points of non-oil GDP this year.

The government also expects additional non-tax revenue from the negotiation of a new stability agreement in the mining sector. For these mining companies that have stability agreements, the government negotiated for compensation for maintaining the existing favorable terms. Furthermore, a number of the others have sought to negotiate new stability agreements with appropriate compensation to government. It is estimated that the compensation fees from these stability agreements will bring in the equivalent of 0.8 percent of non-oil GDP of non-tax revenue.

CEPA supports the position that the outcome of these negotiations is uncertain and moreover, the timeline is rather ambitious. Consequently, CEPA prefers to be conservative and err on the side of caution by placing the additional non-tax revenue at half of the projected estimate i.e. an increase of 0.4 percentage points of non-oil GDP.

The overall deficit is projected to widen by the equivalent of 1.9 percentage points of non-oil GDP. This is on account of increased debt service obligation arising from the impact of the depreciation of the cedi on external debt service and that of monetary policy tightening (raising interest on the domestic debt) and the clearance of payment arrears including carryovers from 2011.

On 23 August, 2012 the BoG issued a 5 year bond which was over-subscribed and at a lower average interest rate of 23 percent compared to the 26 percent average interest rate realized from the previous 5 year bond issue.??The Minister of Finance and Economic Planning has stated that proceeds from this issue would be used, not to widen the deficit, but to lengthen the maturity profile of bonds. This decision is important for the achievement of the overall deficit in two ways:

??????????First, it re-enforces the commitment of the Government to resist spending pressures in this election year; and

??????????Secondly, it could potentially lower interest rates across the entire yield curve thereby lowering debt service costs (which had been projected to rise), and positively impacting the budget.


Monetary policy in the months leading up to 2012 was loose. Inadequate sterilization by the Bank of Ghana (BoG) left a lot of liquidity in the system that had the potential to fuel inflation and a depreciation of the cedi. Evidence of the liquidity overhang is apparent in the large amounts of currency in the hands of the non-bank public and the large amounts of reserves of deposit money banks both the reserve-to-deposit ratio and the currency-to-deposit ratio were generally rising in 2011. The evidence is also visible in the net foreign asset (NFA) of deposit money banks (DMBs) which rose sharply in the second half of 2011 on average, in the second half of 2011, the NFA of the banks was about GH?350 billion higher than it was in the first half.

In spite of the excess amount of cash in the system towards the end of 2011, the CPI measures of inflation failed to respond by rising. With a fairly stable MPR and a generally falling inflation rate, the real monetary policy rate MPR adjusted for inflation was actually positive and rising, suggesting that monetary policy was rather tight. Had inflation responded appropriately to the excess liquidity in the system by rising, however, the real MPR would have been negative, supporting the view that monetary policy was in fact loose and, thus, signaling the necessity for the MPR to rise.

While not obvious when observed by the CPI-based measure of the real MPR, evidence of the liquidity overhang can be seen from the CEPA wholesale price index (WPI)-based measure of the real MPR which fell sharply in 2011 and became negative in the second half of the year. This adds further to public concerns about CPI inflation. It also calls in question whether it is an appropriate inflation variable to be targeted by the BoG in its inflation targeting (IT) framework. It is pertinent to note that the Reserve Bank of India targets the WPI in its IT framework.

To be effective, monetary policy has to target a variable that responds positively to monetary conditions. The failure of the CPI inflation to respond appropriately to monetary conditions generally falling until March 2012, instead of rising in the face of large excess reserves and rapid depreciation of the cedi has led an analyst at Renaissance Capital to speak of downwardly sticky inflation .

The depreciation of the cedi at the beginning of the year a seasonal phenomenon caused by a surge in domestic demand in the last quarter of the previous year was intensified and sustained by the conditions of excess liquidity in the system. The initial response by the BoG was an injection of US $1 billion into the foreign exchange market. Given the conditions of excess liquidity, however, this had only a temporary effect in slowing down the depreciation.

Subsequently, the BoG has taken additional steps to tighten monetary policy. The policy rate has been raised three times thus far this year from 12.5 percent in January to 13.5 percent in February, 14.5 percent in April, and 15 percent in June and the BoG has reintroduced its own bills for open market operations (OMO) purposes. The BoG has also taken some off-market/administrative measures including:

??????????requiring that mandatory reserves on both cedi and foreign currency deposits now be held in cedis,

??????????requiring all banks to provide 100 percent cedi cover for their off-shore account balances to be maintained at the BoG, and

??????????lowering the allowable limits on net open positions of banks.

Market interest rates have responded positively to these measures. However, further monetary policy tightening would be needed. With short-term interest rates above 20 percent, and the MPR at 15 percent, the gap between the MPR and market rates would have to be closed if the MPR is to remain an effective guide for market interest rates. This would require a greaterreliance on market-based policies, rather than on administrative policies, with the MPR rising and or market interest rate falling.

As previously mentioned, the 5 year bond issued by the BoG in August was over-subscribed at a lower interest rate of 23 percent. That the Minister of Finance has stated that proceeds from this issue would be used to lengthen the maturity of bonds is a step in the right direction towards re-aligning the MPR with market interest rates. This decision could lower the yields on Treasury bills and bonds, effectively lowering the entire yield curve and bringing market interest rates in better alignment with the MPR.

While the Bank of Ghana has contended that administrative measures are a useful and cost-effective complement to market-based policies, the BoG must take care to assess their full implications before they are implemented. Non-market measures, for example, may impose costs on banks which may evoke responses from them that could have unintended negative consequences for their clients. Non-market means of sterilization may also force market interest rates to rise by more than is indicated by the MPR, thus leading to a misalignment of the MPR and market interest rates. There is, thus, the need for information sharing and improved communication from the BoG to the general public, as well as total cooperation of banks with regards to the implementation of non-market measures.

Monetary policy needs to be tightened. But, more importantly, greater co-operation, collaboration, and complementarity in macroeconomic policy making and implementation would also be needed. Currently the burden of stabilization rests, in a lopsided way, on monetary policy. However, a better balance must be achieved between fiscal and monetary policy in the task of regaining macroeconomic stability. The BoG s resource constraint in effective sterilization must also be resolved. This can be achieved through the provisioning for OMO in the budget. The projected lowering of the yield curve in line with improved expectations should yield good dividends more fiscal space and lower cost of OMO.

External Trade and Payments

The nominal effective exchange rate (NEER) a trade-weighted summary index of the cedi exchange rate with currencies of major trading-partner countries depreciated sharply in the first six months of this year by 17? percent, more than twice the pace of nominal depreciation in the whole of 2011. This rapid depreciation was fuelled by loose monetary conditions , high domestic demand associated with a four-year political business cycle (PBC) commencing in each election year, thus far a regular feature in the Fourth Republic, and reinforced by unanchored expectations. Moreover, over the recent period, speculative activities by some dealers and traders in the foreign currency markets have been associated with a decline in interbank trading and a widening of spreads between the interbank transactions and foreign exchange bureaus rates.

CEPA agrees with the staff of the Bank of Ghana (BoG) and the International Monetary Fund (IMF) that the depreciation of the cedi was not surprising in the context of sizeable inflation differential between Ghana and her major trading partners as well as a high and widening current account deficit. Nonetheless, the pace of depreciation in the first half of 2012 has created challenges for anchoring expectations. In this environment, the US$1.0 billion intervention by the BoG in January that was meant to stabilize the currency provided only temporary relief. Subsequent interventions saw the foreign exchange reserves falling from US$5.5 billion at the end of December 2011 to US$4.3 billion by the end of the first half of 2012. This is equivalent to 2.5 months of imports cover of goods and services down from the more comfortable level of 3.1 months registered at the end of 2011. Typically, economies with import cover of less than three months are considered vulnerable to external shocks such as a spike in the global oil price.

Meanwhile, Ghana s external payments position continued to be strong in 2011, with an overall balance of payments surplus amounting to US$611 million. As in the preceding two years, this surplus was achieved on the back of much improved commodity terms of trade, significant financial resources from development partners and foreign direct investments to finance the development of the oil field and widening current account deficits. It may be noted that the increase in the current account deficit is also, in part, due to the increase in services and income payments that comes with the new oil and gas industry.

The evidence is that the core commodity terms of trade based on world market prices of cocoa, gold and crude oil has been benign, while the overall terms of trade (TOT) as measured by the Fund has been a lot more favourable to Ghana. Changes in the commodity terms of trade can hardly be predictable with certainty as they are exogenous shocks to the policy environment. Ghana s economic history strongly suggests that positive gains from the terms of trade are best treated as temporary and reversible.

The favorable developments in the external sector helped to mask the potential adverse consequences of loose monetary conditions at the turn of the year. CEPA analysis suggests that with the discovery of oil and entry into the oil era, the equilibrium real effective exchange rate had appreciated. Thus, while there has been a tendency for the real effective exchange rate (REER) to appreciate, this has been mild and consistent with the economic fundamentals.

The withdrawal of energy subsidies in December unanchored inflationary expectations which got boosted by the sharp rise in domestic aggregate demand pressures of the political business cycle of election year 2012 and in the context of a liquidity overhang sparked up a self-fulfilling speculative attack on the cedi. The resort to foreign exchange market operations (FEMO) rather than open market operations (OMO) the more appropriate in the circumstance provided only temporary relief and resulted in exchange rate overshoot and misalignment.

Putting all the evidence and analysis together, the conditions in the fourth quarter of 2011 support the assessment of monetary policy having been loose. It may be noted, however, that, by themselves, these conditions would not have caused a pace of depreciation more severe than the seasonal episodes regularly observed in the first quarter of each year. Placed in proper context, however, they left the economy ill-prepared to cope with the adverse exogenous shock of the political business cycle (PBC) and the surge in domestic demand pressure (both private and public) and which created the currency crisis reminiscent of election-year 2000 and election-year 2008.

The endorsement of the 2012 economic programme of the government and the disbursements of some US$178.74 million together with the renewed commitment to fiscal discipline and monetary tightening as necessary, have boosted market confidence with the cedi experiencing a trend reversal in fortunes from depreciation to appreciation. The lessons for now and the future are clear. It is important that macroeconomic policy be tightened over the course of the remaining five months of this election year in order to save the succeeding years 2013 and 2014 from the austerity of the stabilization experiences of 2009 and 2010.

What is needed is stronger coordination and greater complementarity between fiscal and monetary policy and strengthening information sharing and communication with the public. CEPA is in agreement with the Fund that the Bank of Ghana and the Ministry of Finance and Economic Planning must work together to improve the functioning of the domestic bonds and foreign exchange markets. To reduce volatility and ensure convergence of exchange rates in the markets will require:

??????????As much as possible moving intervention practices in the market from FEMO and in any case avoiding multiple exchange rate practices in the interventions by the BoG;

??????????enhancing transparency and providing regular and frequent information with the view to bringing the general public and not just the banks into greater appreciation of macroeconomic policies; and

??????????continued strengthening of the structures of oversight, particularly banking supervision and regulation, for stricter enforcement of rules and insisting on their compliance, while at the same time seeking greater cooperation from the commercial banks.

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