emmanuel tumusiime - mutebile : the implication of the exchange rate depreciation for inflation and monetary policy remarks by mr emmanuel tumusiime - mutebile, governor of the bank of uganda, at the 10th private sector foundation uganda international trade expo, lugogo, 25 august 2015. * * * good morning ladies and gentlemen. i would like to begin by commending the private sector foundation for organising this trade expo, which performs an important role in promoting trade and industry in uganda. in this address i want to take the opportunity to explain the macroeconomic policies which the bank of uganda is currently implementing to address the shocks facing the economy and ensure that it remains stable. as you all know, uganda ’ s exchange rate has faced repeated bouts of pressure since the first half of 2014. on a trade weighted basis, the exchange rate has depreciated by around 23 percent since august 2014. the main reason for this depreciation is that uganda has suffered several external shocks which have affected exports, tourism and foreign direct investment, while at the same time demand for imports has remained quite strong. we suffered a wider current account deficit in the last financial year and this deficit was not fully covered by surpluses on the financial account of the balance of payments. uganda is far from unique in facing exchange rate pressures. many emerging markets and developing economies around the world, including in africa, have seen their currencies fall sharply in value over the last year, mainly because of lower commodity prices and a reversal of capital flows. the depreciation of the exchange rate has implications for the macroeconomy and for the different sectors of the economy. i will discuss the macroeconomic implications first and then address the sectoral implications. before discussing the impact of the depreciation on the macroeconomy i want to emphasise two important features of our macroeconomic framework. the first is that the primary objective of the bank of uganda ’ s monetary policy is the control of inflation. this is because inflation is such an important variable in the economy, directly affecting the welfare of all the population as well as the business environment for the private sector and because it is a variable which it is feasible for monetary policy to control, at least over a medium term horizon. our target for annual core inflation is 5 percent. it is not realistic to control core inflation to 5 percent in every single month – sometimes it will be lower and sometimes higher – but it is realistic to aim for

this has meant that innovations have had to be designed to incorporate safeguards to protect the public ’ s savings, as is the case with mobile banking, which i will discuss later. in other cases, such as with small informal financial institutions, we have to recognise that it is not practically possible to provide effective prudential regulation. i would like now to highlight four innovations in the ugandan financial markets which are relevant for financial inclusion and explain the regulatory approach that we have adopted to them. deposit taking microfinance institutions the first innovation i want to discuss is the establishment of microfinance institutions ( mfis ), which began in uganda in the 1990s. initially these were not - for - profit institutions which relied mainly on donor funding and did not take deposits. at around the turn of the bis central bankers ’ speeches millennium, uganda, along with many other countries, took the view that at least some of the mfis should be allowed to accept deposits, both because their customers would benefit from access to deposit facilities and because mfis could grow more rapidly and be more sustainable if they could mobilise deposits. therefore, specific legislation was introduced in 2003 to allow mfis to take deposits. to provide safeguards for the deposits, the legislation imposed prudential regulations on microfinance deposit taking institutions ( mdis ) and brought them under the regulatory aegis of the bank of uganda. however the prudential regulations were specifically designed to take account of the fact that mdis are generally much smaller than commercial banks and have a very different business model. for example the minimum start up capital requirement for a deposit taking microfinance institution is much lower than that of a bank. for an mdi the minimum capital is shs 500 million, whereas for a commercial bank it is shs 25 billion. in 2010, the coverage of the deposit protection fund was extended to include the deposits of mdis. it is fair to say that the growth of the mdis has not been as rapid as originally hoped. although the number of deposit accounts with mdis has increased five fold since 2006, as shown in table 1, it is still small in comparison with the number of deposits accounts held in commercial banks ; commercial banks held more than five times as many deposit accounts as mdis in 2014. as such mdis have only made a relatively modest contribution to reducing financial exclusion over the past decade. it appears that the business model of mdis, which involves a high volume of small