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Why did Liberia Chop My Money??

3/20/2013

5 Comments

 
I recently visited Monrovia, which in the words of P-Square, chopped my money. Food, accommodation, and transportation are much more expensive in Liberia than in any other West African country I have visited. 

It’s true that Liberia is a post-conflict country full of UN staff, who, when not struggling to help Liberia maintain its stability and get on its feet, are probably struggling to find enough things in Liberia to spend their money on. But Liberia also differs from other countries in West Africa in that the U.S. dollar is used in parallel to the Liberian dollar. Is it possible that dollarization could also contribute to higher prices?
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"Could we buy some dirt? That would help GDP, right?"
First, a couple of observations about money and prices in Liberia. The U.S. dollar and Liberian dollar are used interchangeably. There is no place that accepts only one. Generally, the U.S. dollars are used as large denomination bills, and the Liberian dollars are used in place of U.S. coins. (I didn’t see a single coin in Liberia.) Prices of imported goods in Liberian supermarkets are roughly the same as the dollar equivalent of prices of imported goods in Ghanaian supermarkets. Gas prices also seem to be similar, though a bit more expensive. It seems that the main difference in prices stems from differences in prices of services. 

The fact that price differences are concentrated in services, or non-tradeables, makes me suspect that the high prices are in part due to dollarization, and here is why: in a non-dollarized economy, like Ghana, which uses the cedi, if the Ghanaian government pursues a loose monetary policy, the currency will depreciate relative to the U.S. dollar. This doesn’t affect the dollar price of imported goods—these are bought in dollars, so their price in Ghana cedis will just be inflated so that the equivalent price in dollars is unchanged. Other prices in the economy, however, are sticky. Employees have contracts with set wages, and people are used to paying a given price for hiring someone to sew a dress. As a result, the price of these non-tradeables stays constant in cedis, but becomes cheaper in dollar terms.

(Note about monetary policy transmission in West Africa: In West Africa, business and consumer loans are much scarcer. So loosening monetary policy doesn’t lead to cheaper credit very quickly. It does, however, mean that cedi funds are more readily available to banks than U.S. dollar funds, which puts pressure on the exchange rate. So monetary policy transmission through exchange rates is more important in countries like Ghana, and happens more quickly, relative to transmission through interest rate mechanisms, compared to countries where large portions of the population have access to credit.)

What this means is that Ghana, if has a trend of depreciating currency, can have low overall prices in dollar terms because, in dollar terms, prices for non-tradeables have fallen. Liberia, since it is dollarized, won’t see this effect. If Liberia prints more Liberian dollars, the exchange rate may change, with the value of the Liberian dollar declining, but prices in dollars will stay the same.

This does, of course, attribute a level difference to an effect that applies to differences in rates of change, and my observations regarding prices of goods and services are anecdotal (Liberia doesn’t have good CPI data.) If you have comments on the plausibility of the theory, please comment!

5 Comments
Viveak
3/20/2013 12:11:37 pm

My knowledge in this matter is negligible but I tend to agree with what you have written. On a different note I think Ghana policy of making Ghc equivalent of dollar a few years ago is one of the main contributing reason for Ghana being crazy expensive. The value since has become half and the cost for the same product for a fixed income person earning in Ghc has doubled. So in dollar terms when you say that non tradeable are cheaper in reality it is becoming more and more expensive for the common man to live off the same money and hence the price for these go up in time, maybe not as fast as imported goods but they still do.

Reply
LW
3/21/2013 04:37:34 am

Hey Liz

Thanks for submitting this to peer-review!

I have never loved macro, but here are my very modest two-cents on this.

First, I agree with the way you set the problem (i.e. tradable Vs non tradable). But then I don't really buy the non-tradable price stickiness explanation. You're describing a transitory process, not a permanent one. If the currency is permanently losing value, people just factor that into their prevision and wage expectations.

I would be tempted to think there is also kind of a resource curse here. A lot of USD are coming into this economy because of exports of rubber and iron ore in particular.

In my very narrow micro-oriented mind, the main reason is that labor in India or Ghana is less expensive than in the US is that it is simply less productive in the tradable sector: that means that salaries in USD equivalent are lower in India or Ghana. And because the labor market is common between the tradable and non-tradable sectors, that means salaries in USD equivalent are lower generally speaking. Those lower wages in USD equivalent flow into the non-tradable sector.

In a resource rich country like Liberia, however, this is not the case any more that labor is less productive than in the US in the tradable sector. Therefore labor doesn't get particularly less expensive in Liberia than in the US
Another, more simplistic way to put that would be that there are a lot USD coming in, and therefore a high local demand of non tradables that cannot be met by local supply, hence higher prices in USD equivalent.

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Alexandra link
1/16/2014 06:59:15 pm

Very Useful information , this is both good reading for, have quite a few good key points, and I learn some new stuff from it too, thanks for sharing your information.

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Invité link
5/4/2014 08:14:49 pm

Thanks for posting this:)

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essay link
5/4/2014 08:29:05 pm

thanks for your sharing, I appreciate this. keep up the good work:)

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    About Liz

    I have worked in economic policy and research in Washington, D.C. and Ghana. My husband and I recently moved to Guyana, where I am working for the Ministry of Finance. I like riding motorcycle, outdoor sports, foreign currencies, capybaras, and having opinions. 

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