20 March 2012
Over the years, Sierra Leone has experienced shortages mainly in electricity, drinking water, petrol, and certain basic food items. But what is different this time is that at least twice in the last six months, this trend has been extended to the country’s currency – the Leone. What has gone wrong?
The Government of Sierra Leones’s official position is that the country’s currency shortages have been caused by fiscal expansion – increased government spending.
But economics teaches that even though there exist a correlation between fiscal expansion and currency shortages, correlation cannot be interpreted to mean causation.
I reject the government’s position, by advancing two compelling arguments that provide a better understanding of this prodigious problem.
My first argument is couched in the causal relationship between inflation and currency shortage. This causality which runs from inflation to currency shortage becomes more profound when the rate of inflation is understated as has been the case in Sierra Leone over the last four years.
Whereas the current inflation rate is officially 15.7%, in reality, that rate stands at around 25%, which makes it one of the highest in the world. It is important to note here that the higher the rate of inflation, the more the money needed to pay for the same commodity.
However, consumer transactions in the market have been hampered as the amount of fresh Leone notes printed annually to replace unusable notes that reach the Bank of Sierra Leone from various banks has fallen way short of what is required to meet the demand for money in the economy.
This means that a discrepancy exists between the expected money stock (currency in circulation and checking account deposits) and the actual money stock in the economy.
To make a bad situation worse, although it is mandatory for public banks to replace bad notes that customers or non-customers bring to their branches, in practice, many have been observed to be refusing to replace these notes.
From a legal standpoint, refusing to replace bad notes is an affront on the financial solvency of Sierra Leone as the Leone is the legal tender of the Government of the Sierra Leone.
But bankers have often complained that even the Bank of Sierra Leone refuses to replace bad notes.
Succinctly, when the Bank of Sierra Leone refuses to replace bad currency, it neglects its statutory duties. Yet this negligence can be explained in terms of the myriad of internal problems that the central bank has to deal with on a daily basis.
Its low manufacturing capacity, for example, often compels it to re-circulate old, torn and soiled notes that it receives from various banks instead of destroying them and replacing them with freshly printed ones.
But eventually, these bad notes will disappear while in circulation without being replaced by new notes. This creates a serious problem in monitoring the money supply.
Based on the foregoing, the cash squeeze in the last few months can be looked at as the cumulative outcome of three factors: the corrosive effect of hyperinflation; the lack of candor on the part of the Koroma administration to acknowledge the seriousness of the country’s macroeconomic instability; and the incompetence of the administration at the Bank of Sierra Leone.
This incompetence on the part of the central Bank influences my second argument, which will deal with the relationship between hoarding and currency shortage.
Currency hoarding has historically been associated with political dictatorships. Dictators are obsessed with power, ego, money and hoarding. Cases of money hoarding by dictators abound in Africa.
In the case of Sierra Leone, with the transformation from a fluid democracy into a stolid autocracy over the last four years, the abuse of presidential powers, which includes the plundering of state funds, the hoarding of money and the brutalization of the innocent has prevailed like a pestilence.
Additionally, since it is natural for dictators to fear and loathe the people that they have wronged, they must always have a pile of money to maintain a small and private army and to also bribe at any given opportunity those who they fear would transgress on their power.
To facilitate this process in Sierra Leone, the president has staffed the upper management of the Bank of Sierra Leone with sycophants who pander to his interests much to the detriment of the state.
Consequently, the management of the central bank has effectively been transformed into a rubber stamp that signs off on Koroma’s illegal demand and use of state funds without question.
Correspondingly, with the challenges of election year politics becoming more and more daunting, the president’s job security has become more and more precarious in the face of mounting disenchantment with the existing order especially among the hungry masses.
In a bid to reverse this tide, the president has resorted to bribing paramount chiefs and opposition party members.
But this grandiose scheme, which is designed to influence the electoral process in favor of the ruling All Peoples Congress, has required the large scale hoarding of the country’s currency especially in large denominations.
This has left the stock of money in circulation to comprise mostly of smaller denominations.
Consequently, the public has had no choice but to make large payments with smaller denominations of Leones. Yet smaller denomination Leones account for a smaller percentage of the total currency in circulation.
And with the Bank of Sierra Leone not replacing the currency hoarded by the president and his associates, it is easy to understand why there is a recurring currency shortage in Sierra Leone.
Currency shortages can be avoided with the conduct of sound monetary policy. And the conduct of sound monetary policy demands that the onus be on every responsible central bank to predict money demand at any given time.
This prediction forms the bedrock for determining the money stock that would equate the quantity of money demanded with the quantity of money supplied in the economy. Furthermore, monetary policy can only be sound and effective if the autonomy of the central bank is respected by outside forces.
Let’s assume that the government of Sierra Leone, respecting the autonomy of the Bank of Sierra Leone, wants to finance fiscal expansion and decides to borrow 50 billion Leones from the central bank instead of using tax revenues. Let’s also assume that the total money stock in Sierra Leone is 500 billion Leones.
What the government has to do is to issue Treasury Bills to the Bank of Sierra Leone. The Bank of Sierra Leone in turn will either give the government 50 billion Leones or will simply credit the government’s checking account in that amount.
By so doing, the money stock will increase from 500 billion Leones to 550 billion Leones.
This example contradicts the government’s preposterous argument that the two currency shortages experienced in the last six months were caused by fiscal expansion.