By Franklin Sisabu Bendu
The recently announced proposal by the Bank of Sierra Leone to re-denominate the country’s currency triggered considerable reactions from many Sierra Leoneans at home and abroad. The announcement came at a time of acute shortage of the Leones in the banking system. Speculations and commentaries about the implications of this re-denomination saturated both on traditional media and on social media.
If not for anything else, we should be worried about the impact such a policy will have on the economic trajectory of the country. Two decades after the end of the civil war, the country is still grappling with high levels of poverty, persistent budget deficit, low economic growth, food insecurity, huge infrastructure deficit, low human capital development and a public sector-dominated economy.
There are so many factors slowing the growth trajectory of our economy. Some of them are exogenous – global financial and economic crisis in 2008/09, the fall in commodity prices and the outbreak of Ebola in 2014 and the coronavirus pandemic in 2020. In a small open economy like Sierra Leone, these shocks are bound to create macroeconomic imbalances. However, there are constraints that are more inward and the shortage of cash in the banking system is what I will focus on in this article.
Why the shortage of cash in the banking system?
In economics, there are certain jargons and phrases that may sound alien to the average person. To understand the current shortage of cash in the formal economy, it will be instructive to explain certain terminologies. Firstly, there is what is known as “the money supply.” This basically refers to the total amount of money—cash, coins, and balances in bank accounts—that is in circulation. There are several standard measures of the money supply, including the monetary base, narrow money (M1), and broad money (M2). For this piece, I will focus on M2, which is the sum of currency held by the public and transaction deposits at depository institutions (i.e., financial institutions that obtain their funds mainly through deposits from the public, such as commercial banks, savings and loan associations, savings banks, and credit unions).
For nearly a year now, citizens have been grumbling about their inability to access their money from commercial banks. A friend of mine wanted to convert US$ 13,000 (Le 130 million) to undertake some research. The commercial bank where the dollar account is held was unable to provide Le130 million in cash. Instead, he was only able to convert his US$ 10,000 into Leones from one of the “dollar guys” in the parallel market.
The banking system is constrained to meet the demand of its customers as the bulk of currency is held outside of the banking system (in private hands) to facilitate transactions in an economy that is largely cash-based. This development is slowly eroding confidence in the banking system to provide cash on demand, and further reinforces the need for informal economic agents to hoard cash, which continues to impede the smooth functioning of the economy.
Some of the activities that could explain the reasons why banks are unable to meet their obligations to their customers include: the huge black market for foreign currencies, growth in international money transfers, unofficial money transfers through business enterprises and a large and growing informal sector that is disconnected from the main financial architecture.
The black market for foreign currencies is a thriving unregulated business in the central business district of Freetown. Billions of Leones and millions of dollars are held in cash outside the formal banking system in order to facilitate transactions in this space. These traders determine the price at which foreign currencies are bought or sold. As one of its core functions, the Bank of Sierra Leone is responsible for regulating the trade of foreign currencies. The bureaux exist in all but name, as most of the trade in foreign currency is done in the streets.
Since the end of the civil war, the informal money transfer market has boomed. A typical transaction occurs in this way: Individual A in Europe or USA wants to send money to individual B in Sierra Leone. However, sending the money through international money transfer will see them lose out on the exchange rate in addition to paying a service charge. So individual A will deposit the pounds/euros/dollars into the account of Individual C, who has a business in Sierra Leone and will ensure individual B gets the equivalent Leones in Freetown. For this transaction to be successful, individual C will need to have Leones readily available and as such will not make deposits into the commercial banks in Sierra Leone. These transactions mean large amounts of Leones are always held outside the formal banking system to support their operations.
The informal economy in Sierra Leone is expanding and will pose enormous challenge to government. Government is losing billions of Leones from non-payment of taxes and much of the Leone circulates in the informal sector. The informal sector is also largely responsible for the wear and tear of the Leone and in a way reduces the volume of Leones available in the country. People often forget to realise that government pays for the printing of the Leone. Furthermore, some of the major cash movers in retail, wholesale, agro-crop purchasing, and the artisanal diamond and gold business sectors are hoarding cash so that they are ready to make payments in real time.
The shortage of Leones in recent months has seen the Governor of the Bank of Sierra Leone come under attack over his apparent lack of leadership to address the problem. His way of addressing some issues makes him an easy target. Why tell the public about redenomination when the Bank is not yet ready for it? Why invite the Fullah community for a meeting? Is that an indication that they are the ones hoarding the Leones and the Governor wants to plead with them to pump Leones into the banking system? Redenominating our currency has huge financial implications, in addition to the massive logistical requirements. It is a process the Central Bank will not undertake alone and will require the cooperation and support of all other stakeholders.
Lessons can be learnt from Ghana who re-dominated their currency in 2007. I see some similarities with our current currency situation and the one that obtained in Ghana. In 2006, the largest currency note was a ¢20,000.00 bill, the equivalent of two US dollars. In Sierra Leone, the largest currency bill is Le10,000, the equivalent of one US dollars. Inflation in Ghana in 2006 was 10.92%. Our inflation rate as at end-June 2021 was 10.21 percent. Most financial transaction in Ghana in 2006 was done by cash. This is the same in Sierra Leone. Some of the reasons for redenomination that was given by the Bank of Ghana then included the strains on the ATM payment system, reduction in the cost of carrying large volumes of bank notes and its associated risks, reduction in transaction volumes, simplification of accounting records and the ease of expressing monetary values and significant cost savings for printing bank notes. All of these reasons are quite familiar in our economy.
Maybe the Governor of the Bank of Sierra Leone has seen the similarities and is of the view that we should take a similar path. The Governor of the Central Bank spent over three decades teaching Economics in the United States of America. He knows the Chairman of the Federal Reserve will be keenly listened to whenever he makes a pronouncement. His comments can change the dynamics of the stock exchange all over the world. Although, we are a developing country, a policy pronouncement by the Governor still creates speculation.
The proposal to redenominating the Leone should not have been made without thinking through the ramifications this will have for the market. Since the announcement, the Leone has depreciated against major currencies by a few percentage points. People with loads of cash are not converting into dollars, euros and pounds as secure forms of their wealth. Too many Leones chasing too few foreign currencies is bound to have an impact.
Some proposals
We will continue to face these challenges as long as we are a cash-based economy. There will not be any quick fixes over the short-term to transform our economy from being predominantly cash-based to a digital one. However, there are immediate short term gains that can be realised.
The way forward is digitalisation and improving financial intermediation.
Government intervention is critical
The absence of a national switch is a major impediment to financial intermediation in Sierra Leone and constraining the financial inclusion agenda. Although the Real Time Gross Settlement has improved the transfer of large value payments from one bank to another, it is still not completed in real times as it still requires human intervention to reflect in customers’ accounts. As such a payment from one individual to another will take at least one working day for the process to be completed. The current ATM operations across the banking system are localised – specific to each bank – and lack intra-operability and are mainly operated in the urban areas. With a national switch that links all the commercial banks, clearing of payments will be on a real time basis and will have significant ramification for the financial sector in particular and the economy in general. It will immediately reduce the time people spend queuing up to encash cheques or make withdrawal from their savings account. It will also enable consumers to make payments for goods and services in real time thereby reducing the need to hold huge amounts of cash to complete transactions. Very few transactions are done by cheque or cards. With a fully operational national switch, institutions can encourage payment for services like passports, licenses, university fees to be done electronically rather than by depositing cash at commercial banks.
For a developing country like Sierra Leone, significant government intervention is needed to facilitate financial intermediation. Some of the infrastructure needed will not be provided by the private sector as they often make cost-benefit analysis on their investment and are responsible to their shareholders. Addressing the energy problem in district headquarter towns will encourage financial institutions to establish operations and this will significantly reduce their overhead cost. Government should also invest in infrastructure that will improve broadband access in rural areas. This will greatly enhance the economic activities at local level, open access to markets, generate employment along the value chain and raise income levels.
Whilst providing the necessary infrastructure, it is also important the security architecture is strengthened to protect investments. These strategies cannot be undertaken at the same time and as such it calls for a phased implementation of some of these strategies given the fiscal position of government.
In conclusion, I implore the Governor to use some of the legislative instruments available to the Bank of Sierra Leone to reign in on illegal financial transactions. He will need the support of Parliament and the Judiciary. There will be some shocks to the financial system but the benefit will far outweigh the cost.
The views and opinions expressed in this article are those of the author’s and do not necessarily reflect those of his employers.
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