What a depreciating Shilling means for public debt, tourism, and the cost of doing business in Uganda? 

By Amos Sanday and Jude Sebuliba 

Many African currencies have weakened significantly against the US dollar (USD).  For instance, the Ugandan shilling (UGX) has lost about 5.6 per cent against the USD since October 2023. As of February 24th, 2024, the UGX was trading at 3,930 against the dollar, up from 3,620 in August 2023.

This is better compared to other African currencies like the Naira which has lost almost 300 per cent against the USD since June 2023. The Angolan Kwanza has lost 62%, Malawian Kwacha 63%, Congolese Franc, 35%, Burundian Franc 38% and the Kenyan Shilling about 15% over the same period.  

The current volatility in African currencies particularly the UGX is attributed to multiple factors, including: widening trade deficits; short-term investors pulling out of the domestic market in search of higher returns elsewhere; global inflationary pressures arising from wars in Ukraine and Middle East; rising fuel import cost; global interest rate hikes; non-recovery of remittances;  external debt repayments and profit repatriation by multi-national which drains reserves; and the donor effect resulting from donor funding being withheld due to passage of anti-gay legislation and human rights violations. 

Currency depreciation, the decrease in the value of a country’s currency relative to other currencies, can have detrimental consequences for businesses, consumers, and the economy. At the macro level, currency depreciation could have a substantial impact on public debt, impacting both its size and sustainability.  For instance, if the public external debt is denominated in foreign currency, depreciation makes the debt larger and more expensive. This is because more domestic currency is required to repay the same amount of foreign debt. Consequently, the overall burden of external debt rises, leading to higher debt-to-GDP ratios. 

Similarly, for countries with large foreign currency-denominated external debt, currency depreciation leads to higher debt servicing costs. 

Higher debt servicing costs resulting from currency depreciation could also contribute to widening fiscal deficits. The government may need to allocate more resources towards debt repayment, reducing funds available for public investment or social programs. Persistent depreciation could undermine the country’s creditworthiness by increasing the country’s sovereign risk, making it more expensive for the government to borrow in international capital markets.

Higher borrowing costs could further exacerbate debt sustainability concerns and limit the government’s ability to finance its operations and service existing debt. Depreciation thus, poses macroeconomic stability risks, particularly for countries with large external debt obligations like Uganda. 

Sharp currency depreciation could trigger capital outflows, further complicating the government’s debt management efforts by making the country more vulnerable to external shocks. This could have adverse consequences for economic growth, employment, and poverty reduction efforts.

For businesses, currency depreciation increases the cost of doing business. Particularly, businesses that rely on imported goods and materials, face higher input costs when the domestic currency depreciates. As a result, the cost of production rises, leading to reduced profit margins or increased consumer prices. However, export-oriented businesses may benefit from increased demand for their goods and services as foreign buyers find them relatively cheaper.

For businesses with foreign debt, currency depreciation increases the cost of servicing debt. Repaying loans denominated in foreign currencies becomes more expensive, potentially straining their financial health, especially if they lack hedging mechanisms to mitigate currency risk. Domestic currency depreciation could also affect investment decisions by firms, particularly those considering foreign direct investment (FDI) or expansion into international markets.

A weaker currency makes foreign assets relatively cheaper for domestic investors, potentially encouraging outward investment and forcing businesses to delay domestic investment. For consumers, currency depreciation means that they face higher prices for imported goods and services. Businesses that import goods may react by passing over higher prices to customers due to increased costs associated with importing. Rising import prices erode consumers’ welfare and purchasing power.

Currency depreciation also has consequences on household budgets. It impacts household budgets, particularly for imported items. Consumers may therefore need to allocate more of their income to essential expenses, leaving less disposable income for savings or discretionary spending. 
Depreciation may also affect the cost of international travel, especially for tourists considering coming to Uganda. A weaker domestic currency makes foreign travel more expensive, which could reduce the volume of tourists and their spending. 

In conclusion, currency depreciation could have wide-ranging consequences for both businesses and consumers, affecting costs, purchasing power, and overall economic stability. Depreciating shilling could significantly impact public debt, increasing the size, and costs of servicing.

Policy responses including boosting exports and effective exchange rate risk management strategies are important to mitigate the negative impacts posed by currency fluctuations.