Maybe it's time to regulate the banks to reduce the inflation

The National Bank of Ethiopia has a new governor - Mamo Mihretu .

This is a very critical time for the economy with high inflation and forex crunch. And I wish him all the best.

People talk about fiscal policies and monetary management to control the inflation and solve the forex crunch.

I've closely followed anything that has to do with forex allocations by banks for the last 15+ years and I hope the National Bank takes the below measures which sound very practical to me:

LC opening commission

The LC opening commission has been 10% for the better part of the last 3 years. Moreover, with delays in shipment (especially after Covid-19), goods hardly get shipped within the LC period of 90 days, and the banks charge LC extension charges of 8.5%. More often than not, the LC opening + extension charges amount to 18.5% (1.5% goes to the National bank if I'm not mistaken). So, if an importer opens an LC for USD 100,000 and the goods do not get shipped in time, the charges are USD18,500. The economy is not doing well, but the banks keep making more and more profit. And I believe that the main secret lies with the LC opening commissions and the extension charges they levy.

If a medium sized bank brings in forex of USD 200 million, they get to keep 30% which is USD 60 million. If we take 8.5% opening charges + 2.5% extension charges - assuming the delay happens nearly 30% of the time. The bank earns USD 60 million x 11% x 53 = Nearly 350 million Birr (for medium sized banks, that is 50% of their profit before tax). And this is a conservative estimate. I don't see the reason why banks charge this much LC opening charges - what is their cost? What have they done to earn the forex to warrant such heavy charges? I believe that this has contributed to the inflation. The cost of imported goods increases by at least 10% even before they’re produced. It's my opinion that the banks are rent seeking!

The 10-20-70 rule

From 1 January 2022 onwards, banks had to give up 70% of their forex earning to the National Bank, 20% for the exporter (or for the one who earned the forex) and the 10% for the banks.

I'm sure or I hope the National Bank had a very good rationale when it came out with this directive. However, forex became scarcer and importers resorted to the parallel market. The value of forex in the black market skyrocketed to more than ETB 100 at some point. And it had a heavy impact on the prices of goods. This had a knock-on effect on the shortage of forex as remittances were affected. People would use the black market to send money home because the difference was/is too much.

This rule has to be lifted and should slowly return to 70-30 ratio (70% to the bank - 30% to the National Bank), and eventually 100% to the bank. (Of course, the banks have to be heavily regulated and controlled by the National Bank on their currency allocation, and well I know other factors would be in play here. But the existing directive has to be changed and the share of the banks/exporters should substantially increase). This rule has also caused delays in LC payments.

Delays in LC payments

The Ethiopian Banks have developed too bad a reputation that it is hardly possible to find foreign banks willing to confirm LC’s from Ethiopian Banks. Even though some banks have improved a lot, many banks do not pay and I know of banks who have not paid for more than a year. The National Bank is aware of the problems, but is not doing enough other than asking them to draft a payment schedule.

Banks should not speculate on forex earning and open LC's. They should only open LC's when they have the matching forex in their account or an LC opened (equivalent amount) to them from a foreign bank for an export proceeding.

Asset Registration of Bankers

It's common knowledge in the business community the role bankers play in the illegal sale/transfer of forex from exporters to importers, and they do get their cut. What we hear is that a single Dollar is sold for as high as ETB 40. This is driving the inflation. And it's not unusual to hear from importers the 'commission' (euphemism for bribe) they pay to bankers to get forex or to be higher on the queue for forex or to get loan approvals or even to get bank guarantees. This drives the cost of doing business which in turn drives the inflation.

Asset registration of bankers is important for obvious reasons. (I know the obstacles, the shortcomings of the system. Yet, we have to start somewhere!)