Five questions about changing the exchange rate

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Five questions about changing the exchange rate

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https://annabaa.org/arabic/referenceshirazi/30290

 

 

Dr.. Haider Hussein Al Tohme

 

Economy Iraqi economy exchange rate Iraqi dinar dollar Al Furat Center for Development and Strategic Studies

The discussion has recently expanded on the reasons and repercussions of decreasing the dinar exchange rate at the end of December 2020, especially with political calls to restore the exchange rate to its previous level, and to correct the policy of decreasing the dinar exchange rate. The media and the irresponsible statements of some parties contributed to the hypothesis of restoring the exchange rate to its previous level, as a result of the improvement in oil revenues on the one hand, and the momentum of political pressure on the other.

The exchange markets responded slightly to those expectations, and the dollar exchange rate in the markets declined to approximately (1400) dinars to the dollar, while the Central Bank's sales decreased from nearly (200) million dollars to (33) million dollars at the beginning of this week. In this context, five frequently asked questions about the dinar exchange rate can be discussed, as follows:

The first question: Why was the dinar exchange rate reduced in December 2020?

- In 2020, Iraq faced a double crisis (health / the outbreak of the Corona epidemic) and (economic / the collapse of oil prices and the stagnation of the local economy as a result of the closure that resulted from the health restrictions at the time).

- Iraq's oil revenues fell sharply due to the weak global demand for oil. In April 2020, oil prices fell to less than (20) dollars a barrel, and oil revenues fell to less than (1.4) billion dollars, after they were in January, of the same year, more than (6) billion dollars, meaning that oil revenues shrank to less than a quarter. .

- The government was forced to borrow internally nearly (27) trillion dinars from the Central Bank, indirectly, by deducting treasury transfers sold to banks in order to finance the financial deficit resulting from the huge government expenditures and the sharp decline in oil revenues.

- Internal borrowing raised the monetary mass from (52) trillion dinars at the end of 2019 to more than (66) trillion dinars in 2020, which increased the demand for the dollar and reduced the foreign reserves rapidly, as a result of the decline in the value of oil exports on the one hand and the high demand for the dollar on the one hand. On the other hand, the local market

Thus, decreasing the exchange rate of the dinar provided an opportunity to maximize oil revenues in dinar and reduce the general budget deficit on the one hand, and another opportunity to reduce dollar sales and maintain the dollar reserve with the Central Bank for a longer period, if the repercussions of the Corona pandemic continued and oil prices remained below (50) dollars per barrel, from On the other hand.

The second question: Was the foreign reserve in danger?

The oil dollars sold to the Central Bank declined sharply as a result of the decline in oil exports, which fell due to the decline in prices and the decrease in exported quantities as a result of the restrictions of the (OPEC +) alliance, which determined the quotas of member states, to control the oil supply and limit the decline in prices. (For example, in the month of April 2020, oil revenues fell to less than a quarter compared to December of the same year).

The increase in the monetary mass from (52) trillion dinars in 2019 to (66) trillion dinars in 2020 as a result of internal borrowing increased the demand for the dollar in the foreign currency auction.

- The impetus of the expectations of banks, businessmen and the public for an upcoming decline in the value of the dinar as a result of the decline in oil revenues doubled the operations of selling the dinar and replacing it with the dollar as a store of value, which increased the rates of demand for the dollar.

All of these factors doubled the risks of a rapid depletion of the bank's reserves if oil prices continued to fall.

The third question / What are the available alternatives to compensate for the decline in oil revenues in 2020?

Iraq does not have an abundance of options to face oil price shocks as a result of the budget and the economy’s exposure to oil revenues in a large way and the weak government efforts to diversify the country’s production and export base, as well as the squandering of an important part of oil revenues in the doors of waste and corruption that wasted an opportunity to accumulate financial space used to absorb oil shocks As is the case in many oil-producing countries. Consequently, the sources available to reduce the fiscal deficit resulting from the sharp decline in oil revenues were limited to:

The Ministry of Finance follows an austerity fiscal policy based on reducing public expenditures, especially salaries, and/or raising tax rates of all kinds, in addition to lifting subsidies on fuel and some basic commodities. But this policy is likely to face great social resistance, especially with the escalation of the wave of protests that the country witnessed in late 2019 in protest against the economic conditions, high unemployment rates and rampant corruption in various government institutions in Iraq.

Resorting to public borrowing, especially internal, and it was adopted in multiple crises, including the double crisis in 2014 and the Corona crisis in 2020, when the government borrowed nearly (27) trillion dinars to pay salaries and cover some public expenses. But it is an unsustainable measure, given that the problem is in the foreign currency restriction... If continuing to rely on internal borrowing leads to the depletion of foreign reserves if the rates of oil exports continue to decline.

Decrease the value of the dinar, especially since the dinar is overvalued. In fact, it was not a genuine devaluation of the dinar exchange rate, but rather a return to the exchange rates in 2003, when the dinar exchange rate was approximately (1,500) against the dollar.

The third alternative (changing the exchange rate) was chosen for a number of reasons, including immediate, such as reducing the deficit by providing nearly (15) trillion dinars to the budget, given the maximization of oil revenues in dinars when government dollars are sold to the Central Bank for (1450) instead of (1192). And also to reduce dollar sales to local markets and maintain foreign reserves for a longer period.

Fourth question: Was the decision to reduce the exchange rate of the dinar sound?

The truth of the matter is that the decision was not made sound in terms of timing and amount, rather it was late, given the multiple shocks that faced Iraq in 2020.. But the criticality of the financial situation, the government’s inability to pay salaries and the proliferation of waves of the Corona pandemic.. all factors that precipitated the difficult decision. The decision to lower the exchange rate of the dinar was agreed upon at a meeting of Prime Minister Mustafa Al-Kazemi with the heads of the political blocs on December 8, 2020, and it was chosen to reduce the Iraqi dinar exchange rate to face the financial crisis instead of reducing salaries, raising taxes and canceling government support. However, it is noted that the economy and markets absorbed the shock better than expected, as the stability of fuel and electricity prices helped reduce the inflation rate in Iraq.

The fifth question: Are there justifications for raising the value of the dinar again?

A long time ago, there were many unstudied opinions to return the dinar exchange rate to its previous level (1200) dinars due to the recovery of oil revenues and the absence of the need for the previous reduction of the exchange rate of the dinar and other arguments, we review them below with the analysis:

The first argument: the fight against inflation

At the end of 2020, the exchange rate changed to (1450) dinars to the dollar, an increase of (21.6%) over the previous official rate (1192) dinars to the dollar. As a result, price levels rose according to the index calculated in September 2021 by (7.3%) from September 2020, which is a low increase compared to the change in the exchange rate and indicates the tendency of the Iraqi economy towards price stability. As for the double price of some commodities, this is due to a number of factors, including:

Weak government control over the movement of local markets and the absence of deterrent penalties against traders and price manipulators in various markets.

The rise in commodity prices as a result of the increase in global production costs after the Corona pandemic.

The collapse of supply chains due to the great closure that the world witnessed in 2020, and the high costs of shipping significantly.

The high prices of many primary commodities, especially oil, copper, and others, due to the halt in investment as a result of work restrictions and expectations resulting from the Corona pandemic.

The second argument: support economic growth

This is a strange argument, since it is known and agreed that raising the value of the national currency does not help in economic growth at all because it involves reducing international competitiveness. As for devaluing the national currency, this is a familiar policy practiced by many countries, and it is conditioned on a package of measures in order to succeed in reality.

The third argument: improving the standard of living of the poor

No two disagree that the devaluation of the dinar reduced the real income of the Iraqi citizen, and the poor classes were greatly affected due to their low incomes in the first place... But were those classes luxurious before the exchange rate was reduced? The answer is that the problem of poverty in Iraq is a result of weak policies for distributing national wealth and the expropriation of a few on the country’s resources in a legitimate and illegitimate manner... as well as weak policies for redistributing income and reviving the poor classes, whether through controlling and diversifying the ration card system or activating the social protection network. Note that decreasing the price of the dollar provides a subsidy, proportional to the level of income, from the oil resource for everyone, which affects the rich many times as much as the poor.

* Researcher at Al-Furat Center for Development and Strategic Studies/2004-Ⓒ2022
www.fcdrs.com