I would like to thank Anupam Basu, Evangelos A. Calamitsis, Maria Carkovic, J.R. Dodsworth, Hans-Michael Flickenschild, Manuel Guitián, E. van der Mensbrugghe, Marjorie B. Rose, Mohammad Shadman, and Brian C. Stuart for their valuable comments and additional information. However, the responsibility for any remaining errors rests solely with the author.
For a general overview of these systems, see Peter J. Quirk, Benedicte Vibe Christensen, Kyung-Mo Huh, and Toshihiko Sasaki, Floating Exchange Rates in Developing Countries - Experience with Auction and Interbank Markets, IMF Occasional Paper No. 53 (May 1987).
In all five cases the authorities availed themselves of technical assistance from the Fund. The exchange systems of The Gambia, Guyana, Jamaica and Nigeria are currently classified by the Fund as independently floating, whereas that of Sri Lanka is classified as other managed floating. Many other developing countries have adopted floating exchange rates in recent years.
While in all cases the authorities were particularly concerned about the political repercussions of depreciation, in the case of The Gambia, given neighboring Senegal’s fixed link to the French franc and the importance of border trade, the authorities also felt that a fixed peg to a major convertible currency was crucial to maintaining confidence in the domestic currency and to avoiding uncertainty and disruptions in external transactions.
Table 2 shows the evolution of the main official and parallel market rates and of the premium in the parallel market. It is based on exchange rates for, the U.S. dollar as reported in IFS for the main official rate and as reported by International Currency Analysis, Inc. for the street exchange rate. In some cases, e.g., The Gambia, the street parallel market rate is not an appropriate indicator of the market behavior. Also, it should be noted that in some countries, e.g., Nigeria, for some periods, the existence of several legal exchange rates besides the parallel rate complicates the picture substantially. Unfortunately, it is difficult to obtain data for all the various rates. For this reason the data should be interpreted with caution.
Accumulation of arrears on external debt payments was also pervasive.
For example, the Sri Lankan authorities were interested in choosing an exchange rate regime that could both facilitate timely adjustments in the official exchange rate (by depoliticizing such actions) and better promote the structural reform process; the parallel exchange market per se was not the focus of their attention.
The introduction of the interbank market was facilitated by the previous existence of a well-developed parallel (cambio) market. The market mechanisms, therefore, already were largely in place and licenses were granted to nonbank foreign exchange dealers who previously had been active in the cambio market.
In Sri Lanka, the authorities permitted some domestic entities (e.g., the Greater Colombo Economic Council and other approved enterprises) to retain the proceeds of their foreign borrowing in special accounts held in Foreign Currency Banking Units, a measure taken with a view to promoting foreign capital mobilization.
Mention may be made, for instance, of the introduction of Treasury bill auctions in The Gambia in July 1986 and in Guyana in June 1991.
A brief discussion of forward markets is provided in the next section. For a comprehensive review of efforts to develop forward markets in developing countries, see Peter J. Quirk, Graham Hacche, Viktor Schoofs, and Lothar Weniger, Policies for Developing Forward Foreign Exchange Markets, IMF Occasional Paper No. 60 (June 1988).
Michael T. Hadjimichael, Thomas Rumbaugh, and Eric Verreydt, The Gambia; Economic Adjustment in a Small Open Economy, IMF Occasional Paper No. 100 (October 1992).
For petroleum products, the domestic sales prices were maintained well below export parity.
At the same time, as noted later, in relation to trade restrictions, they abolished specific import licensing which was replaced by an open general license (OGL) system.
The current account concept used in this paper, derived from balance of payments methodology, is not identical with the Fund’s jurisdictional concept of “current international transactions.” Although Nigeria and Sri Lanka still avail themselves of the transitional arrangements under Article XIV of the Articles of Agreement, all exchange restrictions on current transactions have been eliminated, at least in the case of Sri Lanka. The Gambia, Guyana and Jamaica have accepted the obligations of Article VIII which enjoins members to avoid imposing restrictions on current international transactions without Fund approval.
Eventually the Exchange Control Act was repealed.
As noted earlier, another regulation was removed, whereby forward exchange rates were derived by using the spot rate as a base plus a specific markup.
The first-tier administered exchange rate for public transactions was eliminated, as intended, in July 1987, when the rate was unified with the auction rate.
As explained later, conservative bidding by banks in the auction market was largely the result of the application, by the central bank, of market shares in this market that practically guaranteed access to all banks regardless of their bids.
The only remaining capital controls were: (i) prior approval required for the release of funds in excess of J$5,000 a year from blocked accounts; (ii) the regulation that financial institutions match their Jamaica dollar liabilities against Jamaica dollar assets; and (iii) some restrictions on capital repatriation under the debt-equity conversion program.
An important reaction to the administrative allocation of foreign exchange to banks after the 1989 reforms was the proliferation of commercial and merchant banks, which benefitted from the allocation of scarce foreign exchange resources at below market prices.
As noted above, the unification of the rates was achieved with the removal of all remaining restrictions in March 1992.
No evidence of nonprice rationing has been cited in the other four countries under study.
However, if tariff rates under the Common External Tariff Arrangement of CARICOM (CET) exceeded these amounts, the CET rates would apply.
The only remaining state trading monopolies are on petroleum and wheat.
The number of items requiring import licenses was reduced from 143 in 1987 to 93 by mid-1992.
All rates discussed here refer to end-of-month U.S. dollar rates taken from International Financial Statistics, except where indicated otherwise. These rates are those reported to the Fund as the main rates in the official market. In Guyana, for the period between the initial float (March 1990) and the open float (February 1991), the rate refers to the fixed official administrative rate, not to the interbank rate.
The negative effects of such volatility on trade could not be quantified with the available data.
From April 1986 to September 1992 the average monthly change was 2.9 percent. To the extent that The Gambia continued to have a large component of trade in pound sterling, the variability with regard to the dollar may be of secondary importance and may partly reflect the variations of the pound with respect to the dollar.
From October 1990 to September 1992 the average monthly change was 6.6 percent. This includes sharp monthly depreciations in the period August-October 1991 which probably responded to a more accurate estimation of fundamentals by market participants.
This abstracts from discrete depreciations resulting from changes in the exchange rate mechanism in Guyana and Nigeria.
In Guyana, the premium fell to an insignificant level, according to new information as indicated in footnote 2 of Table 2.
Moreover, this problem does not appear to have been fully resolved by the further liberalization of the exchange system and the unification of the auction and interbank rates in March 1992.
Through official action, the authorities in Nigeria limited the spread in the official market to a 1 percent maximum. Similarly, the spread was initially limited to only 0.08 percent in Sri Lanka, but this was raised in two stages to the more reasonable level of 1 percent by March 1992.
In Nigeria this was largely due, however, to the decline in imports. This in turn reflected the decrease in the value of oil exports as a result of a substantial reduction in the price of oil, the major export of Nigeria.
In The Gambia, relatively large capital outflows in the three-year pre-liberalization period were followed by moderate inflows or outflows in the three-year post-liberalization period.
This remark also seems to apply to the most recent exchange reform (in March 1992) which was not complemented by an appropriate tightening of fiscal policy. This, together with remaining restrictions, prevented the reduction of the parallel exchange rate premium.
The major factor was the fluctuation in the production and prices of oil, not the exchange rate system. However, exchange rate adjustment helped reduce these fluctuations after the reform.