Exchange rate policy in Ethiopia: An Agenda for Action

Abstract

The balance of payments of the country has been characterized by a widening current account deficit and a depletion of reserves. This is mainly due to the fact that exports have declined in recent years both in volume and value terms. One of the main factors which contributed to the decline in exports is the lack of incentives to produce. The major disincentive to produce exportable is the unattractive producer price. It is, therefore, important to get the prices right In this paper attempts are made to establish the overvaluation of the Birr using some quantitative and qualitative indicators. The expected effects of devaluation are also briefly discussed. Since the economy is operating below capacity and to mitigate the social cost of adjustment substantial results could be achieved by exchange rate adjustment coupled with an increased inflow of external assistance to finance the import of inputs such as raw materials, fertilizers and spare parts. In order for devaluation to be effective it must take place in tandem with economic reforms aimed at eliminating distortions that reduce economic efficiency. In addition to mitigating the negative impact of devaluation in different ways and means, it jis also important to educate the public on the need for it, because it might cause political instability.