Currencies

How AU platform can free Africa trade from shackles of US dollar

oramah

Professor Benedict Oramah, president and chairman of the African Export-Import Bank. FILE PHOTO | NMG

Intra-Africa trade remains low at 13 percent compared other regions of the world. One of the factors hindering trade is reliance on third currencies - US dollars, Euros and the British Pound - for the clearing and settlement of cross-border payments and transactions, which in turn leads to high costs and long transaction times.

Just recently, on his State visit to Kenya, President Hakainde Hichilema captured the impact of this obstacle aptly.

“…how strange it is that sometimes we (Zambia) trade in goods from Kenya through Europe and vice versa. Really? Does that make sense? Absolutely not,” he told guests at State House during a state banquet hosted by President Uhuru Kenyatta recently.

A new African Union (AU) backed payment platform could be the long-awaited solution that will ease intra-Africa trade.

The Pan-African Payment and Settlement System (Papss) is tipped to reduce transaction costs through more efficient direct rates and faster transfers, the Africa Export-Import Bank (Afreximbank), the platform’s developer says.

That way, it notes, Africa will reduce dependency on the US dollar and other hard currencies, a situation that has particularly left Kenya facing external shocks that have weakened it, and choked supply chains.

Currently, a buyer in Kenya who intends to purchase goods from a seller in Botswana is required to pay the seller in a third currency from outside the continent- either US dollar, the Euro or the British Pound.

They also have to pay extra charges to have the agreed sum processed and sent to the seller and even then, they have to wait several days for transactions to clear.

Aside from time constraints, the process of currency conversation adds to the cost of doing business within the continent. Current payment arrangements are estimated to cost the continent about $5 billion (Sh585 billion) annually.

And getting the coveted US currency is not easy either. Businesses from diverse sectors have complained of difficulty in accessing the dollar in quantities they want, forcing them to wait for days to weeks to accumulate the funds to enable them make payments to their overseas suppliers.

Some have been unable to source enough dollars on a reliable basis, forcing them to scale down their operations.

A number of banks have resorted to borrowing dollars from their clients to fund their forex trading operations.

But Afreximbank president Benedict Oramah says under the new system, transaction costs will be lower because traders or investors do not need to convert each country's currency into the US dollar, easing pressure on the local currency.

The platform consequently is billed to provide a natural hedge for the business community to protect against risk exposure thus creating diversification and ultimately boosting local currency exchange rate stability.

In the last one year alone, the shilling has lost ten units and depreciated 9 percent against the dollar in what has been attributed to strong demand for the hard currency.

Its depreciation to record lows has come on the back of a fast-rising import bill that has outstripped earnings from exports, diaspora remittances and the tourism sector.

Costlier imports have piled pressure on the shilling which weakened to an all-time low of 117.6559 to the dollar on Friday from 113.14 at the beginning of the year.

Bankers say clients are rushing to stock up on the dollar –the dominant currency in international transactions— and this has led to its gradual strengthening against the Kenya shilling.

Backers of the new payment believe it can ease pressure on the shilling.

The new system "leads to diversification," Mike Ogbalu, the head of the payment system said in a Business Daily interview. “It eliminates the need traders to solicit for a hard currency.”

Essentially, the platform serves as the clearing, processing and settlement agent in the transaction.

It works through a process whereby a trader or business issues a payment instruction to their local bank or payment service provider which sends the instructions to the payments platform.

Papss then validates the payment instruction and if successful, forwards the instruction to the beneficiary’s bank which will then pay the transferred funds, in local currency.

The Business Daily has learned that Kenya Central Bank (CBK) is studying the system before considering whether it would adopt it. Adoption by the CBK would pave the way for local banks to adopt it. The CBK did not immediately respond to queries on its views on the platform by press time.

"We have now completed the pilot phase and launched the commercial operations of the Pan-African Payment and Settlement System," says Prof Oramah.

Already, eight African central banks and over 45 commercial banks have joined the system.

“It will enable the payment for intra-African trade in African currencies, thereby domesticating all intra-African trade payments," adds Prof Oramah.

Normally, intra-regional payments take between two to 14 days to complete. "With Papss, the Ugandan government can pay an Egyptian contractor in Ugandan shilling while the Egyptian contractor will receive Egyptian pounds," explains Prof Oramah.

But it is not only African states that are seeking to unshackle themselves from the US currency.

Early this year, arising from such concerns, Indonesia said it will promote the use of a local currency settlement (LCS) in cross-border trade and investment, as an effort to reduce dependency on the US dollar, the country's Finance Minister Sri Mulyani Indrawati is quoted.

"If the LCS can be implemented at a wider global level, this could create a financial safety net among countries and could reduce the risks caused by the global economic and financial instability," Indrawati is quoted saying by local media.

"Under the LCS, transaction costs will be lower, because traders or investors do not need to convert each country's currency into the (US) dollar," the Indonesian economist who has been Minister of Finance of Indonesia since 2016 and previously served as managing director of the World Bank Group adds.

The AU backed system plans to bring in other central banks to ease trade transactions costs especially following the launch of the African Continent Free Trade Area (AfCFTA).

Kenya has already embraced AfCFTA, which aims to bring together 1.3 billion people in a $3.4 trillion (Sh397.8 trillion) economic bloc.

The pact is tipped to boost trade among African neighbours while allowing the continent to develop its own value chains.

The AfCFTA, the largest trading bloc since the creation of the World Trade Organisation (WTO), is expected to increase intra-Africa trade beyond the current 13 per cent and improve the prospects of the African continent to attract huge investments.

President Uhuru Kenyatta has indicated the creation of the AfCFTA provides new export opportunities for Kenyan products.

The goal of a common African currency has long been a pillar of AU, a symbol of the strength that its backers hope will emerge from efforts to integrate the continent.

Under the AfCFTA, liberalisation of trade is being carried out through regional trading blocs — the East African Community (EAC), Common Market for Eastern and Southern Africa (Comesa), Southern African Development Community (SADC) and the Economic Community of West African States (Ecowas) — which run separate Customs unions.