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Shrink to fit

7 February 2014 By Martin Hutchinson

Ghana’s government is responding to a largely self-made problem in exactly the wrong way. Much higher policy interest rates and foreign exchange controls will only make a bad situation worse. The right cure is to make the state affordable.

The sad story starts with the discovery of oil in this poor country. The first production from the giant Jubilee oilfield in 2011 produced enough revenue to increase Ghana’s annual GDP by 14 percent. The ruling National Democratic Congress party has taken more than full advantage of the windfall. The public administration sector of the economy grew by 30 percent in the year to the third quarter of 2013.

The result has been huge fiscal deficits, 12.1 percent of GDP in 2012. The government officially expects the deficit to shrink to 10.2 percent of GDP in 2013 and 8.5 percent in 2014, but the forecasts look optimistic. Attempts to cut back increasingly expensive fuel subsidies have stalled.

The government’s excess has contributed to a dismal overall economic performance. In the third quarter, GDP was less than 1 percent higher than a year earlier, while the current account deficit was up over 50 percent. As taper-shocked global investors lose patience with profligate governments and countries, Ghana is running out of hard currency.

The Bank of Ghana has responded in two ways, with new rules to keep foreign exchange from leaving the country and with an increase in its policy interest rate from 16 percent to 18 percent, 5 percentage points above the dangerously high inflation rate.

Those policies are not going to work as planned. The tighter rules will only spur efforts to circumvent them and the higher rates will depress economic activity. Like too many poor countries that have suddenly found resource wealth, Ghana is in danger of squandering a valuable gift.

The right answers are easy to identify: shrink the government to fit the economy and improve the climate for productive investment. While the politics of better policies will be difficult in the short run, the Ghanaian people would soon be grateful.

 

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