Plunging Ethiopian currency market, as the national birr reaches an all-time low, severely affecting businesses during the ongoing currency crisis.
In the heart of Ethiopia, confidence in the new Homegrown Economic Reform Agenda is wearing thin due to the slow implementation of the reforms, particularly in the area of foreign exchange (FX) market liberalisation. This sluggish progress is causing a significant and widening gap between the official exchange rate and the parallel market rate, currently reaching around a 40% premium on the black market over the official rate.
Reasons for the Widening Gap
The persistent structural macroeconomic imbalances continue to weigh heavily on the Ethiopian economy, leading to a divergence between supply and demand in official markets versus parallel markets. The official FX system's functionality is undermined by limited access and allocation controls, where dollars auctioned by the National Bank of Ethiopia (NBE) to commercial banks are earmarked for "strategic sectors" and exporters must surrender half their foreign earnings to banks, restricting overall access for many businesses.
Informal FX trading thrives outside official channels, with currency prices being decided in unofficial venues such as encrypted Telegram channels and informal brokers, reflecting more realistic market demand and supply compared to tightly regulated official auctions. Despite a 33% increase in FX inflows to $32 billion and banks disbursing larger amounts monthly (~$500 million), delays and structural barriers in FX requests and limitations continue to push businesses toward parallel markets for urgent foreign currency needs.
Government enforcement focuses on cracking down on illicit FX flows, attempting to deter black market activity but indicating ongoing challenges in fully controlling parallel market dynamics.
Potential Impact on Businesses
Businesses face costly and uncertain access to foreign currency at official rates, pushing some to pay higher prices on the parallel market, increasing import costs and unpredictability in financial planning. The exchange rate divergence creates distortions, discouraging investment and complicating trade, as firms navigate multiple exchange rates and regulatory hurdles.
While reforms aspire to stabilise the macroeconomy and FX market, continued gaps and volatility increase operating risks particularly for importers and exporters reliant on FX, which may limit business expansion and profitability. However, the NBE's intensified crackdown on illicit forex flows, increased FX auction volumes, and improved banking procedures (e.g., no excessive birr deposit requirements for Letters of Credit) show an improvement in official system liquidity and confidence, which could gradually reduce dependence on parallel markets and stabilise business operations if sustained.
In conclusion, Ethiopia’s currency liberalization has improved macroeconomic indicators and FX inflows but faces major challenges due to structural economic imbalances, controlled FX allocation, and ongoing market segmentation. The resulting divergence between official and parallel exchange rates increases costs and uncertainty for businesses, even as authorities work to enforce new rules and enhance official market liquidity.
- The limited access and allocation controls in the official foreign exchange (FX) system, combined with the government's focus on cracking down on illicit FX flows, are contributing to the widening gap between the official exchange rate and the parallel market rate, making it difficult for businesses to access foreign currency at affordable rates.
- The inconsistency between the official exchange rate and the parallel market rate, created by structural economic imbalances and controlled FX allocation, not only increases costs for businesses but also discourages investment and complicates trade by creating distortions and multiple exchange rates, making financial planning unpredictable and potentially limiting business expansion and profitability.
