DOLLARIZATION OF THE LIBERIAN ECONOMY: Liberia struggles with balancing dual currency amidst global economic contraction
By Nyankor Matthew
The Perspective
Atlanta, Georgia
June 3, 2009
Liberia’s fetish for all things American dates back to the founding of the republic, and the American dollar is no exception. There is no denying that the Liberian economy is highly dollarized, and in Liberia, the U.S dollar reigns supreme, and has, and continues to enjoy super star status while the Liberian dollar is relegated to a despised step child status. Our dual currency system has created two classes of citizens in Liberia, those who have access to the coveted U.S dollar, and those who do not; and those who do not are the majority of the Liberian people; as a result, foreign investors, NGOs, Liberian and foreign business owners, and even the average Liberians have very little confidence in the Liberian currency. The Central Bank’s fourth quarter “Financial and Economic Bulletin” revealed that the U.S dollar accounts for 68.1% of Liberia’s total money supply, while the Liberian dollar accounts for 31.9% of the total money supply . According to a 2005 CBL monetary policy document, 80% of the currency in circulation is held outside of the banking system, which makes intervention from the central Bank in stabilizing the exchange rate near impossible.
When a nation is dependent on imports, has little to know domestic industries to produce quality substitutes to compete against imports, and virtually replaces its domestic currency with the currency of another nation, such a nation will always be vulnerable to external economic shocks. This point is supported by an IMF working paper which states, “Empirical evidence on the macroeconomic costs of dollarization is mixed: while there is no clear evidence that increased dollarization significantly reduces the effectiveness of monetary policy, there is an emerging consensus that highly dollarized financial sectors may be more vulnerable to shocks…The small domestic currency component of the monetary base makes it difficult to control monetary growth, which reduces the effectiveness of monetary policy as a tool to stabilize the economy”.
I applaud the president for revisiting the discussion on Liberia’s distorted dual currency system, and the economic effects of this system on the lives of the Liberian people. I am of the opinion that Liberia does not currently have the capacity, financially as well as economically, to de- dollarize. Liberia’s economic and monetary umbilical cords are tied to the U.S dollar, and have been this way from the founding of the republic. It would be unwise at present to fully dollarize or dedollarize. However, there are policy and monetary steps that should be taken by the Central bank and the government of Liberia to strengthen the financial system and the Liberian economy.
The issue of dual currency in Liberia and the dominance of the U.S dollar in Liberia need to be in the forefront of the financial and economic policy debate moving forward. There is no denying that the U.S dollar has a de facto status in the Liberian economy, but the issue of fully dollarizing puts Liberia’s sovereignty at risk, and this sentiment is echoed by the CBL in its policy framework, when it said, “The question that is now being asked in many quarters is whether Liberia should adopt a full dollarization… Full dollarization wipes away control of monetary and exchange rate policy from the dollarizing country and the ability of the central bank to print banknotes ceases to exist and this, in turn, limits the bank’s lender-of-last resort function. The country loses seigniorage, abandons its national currency which is a symbol of sovereignty and nationhood” (Monetary Policy Framework of the Central Bank of Liberia).
At the end of the day, the government of Liberia and the Central Bank will have to get off the fence on this issue, and put in place the necessary policy tools that will lead to a gradual process of de-dollarization. The IMF working papers says it best. "...Once it has established a track record of economic and political stability, Liberia could consider micro measures to encourage lending in local currency and the purchase of local currency assets. The legal tender status of the U.S. dollar could be withdrawn if that would not weaken financial sector stability or cause capital flight. Effective communication of a policy strategy that recognizes that dedollarization is a gradual market-driven process will increase the probability of achieving sustained dedollarization without adverse macroeconomic consequences”( “Dedollarization in Liberia—Lessons from Cross-country Experience”, Lodewyk Erasmus; Jules Leichter; Jeta Menkulasi).
First and foremost, the central bank needs to promote exchange-rate stability and policies that will preserve the Liberian consumers’ purchasing power. The Liberian government and the banking sector must encourage the usage of the Liberian dollar for all transactions, big and small; and it starts with the government of Liberia paying salaries in Liberian dollars instead of U.S dollars. It is unacceptable that 80% of the currency in circulation is outside of the banking system. Hence, it is imperative for our banking sector, in conjunction with Central Bank, to find creative and innovative ways to bring those individuals and businesses operating outside of the formal sector into the formal financial sector. The government of Liberia must begin to seriously explore ways to create a manufacturing sector that can produce domestic substitutes to compete with high cost foreign imports, as well as minimize the country’s dependence on imports. The issue of dual currency Liberia is more than just dollar and cents; it is about national pride and sovereignty.