The dollar: their currency, our problem!
“Dollarisation” is the result of a rational choice of economic agents. While this process can be a vehicle for better integration into the global economy, it can also be a complex test: "The dollar is our currency, but your problem," said Treasury Secretary John Connally under President Richard Nixon.

In recent decades, the use of the US dollar has permeated all facets of the Congolese economy, including small transactions, in response to inflation and the dramatic collapse of the national currency in the 1990s, and regulations since 2001, which have allowed the country to hold and finance operations with foreign currency.

“Dollarization" occurs when residents of a country adopt a foreign currency - usually the US dollar or the euro - as their alternative currency. It basically exists in two forms.

The first, "partial dollarization", occurs when a country holds a foreign currency and accepts that transactions are settled in the latter without it being its "legal currency".

“Full dollarization" occurs when the country abandons its own currency and accepts another currency as its legal currency.

In the case of the DRC, although the dollar essentially acts as a unit for setting the price of goods and services and as an instrument for paying and holding savings, only the Congolese franc is legal tender. But it has indeed become a substitute and safe haven currency, relegating the national currency to a more marginal function, as evidenced by a Deloitte study reporting that, at the end of 2017, 82% of deposits and 85% of loans were denominated in US dollars in the domestic banking system.

Partial dollarization is not unique to the DRC; many countries around the world operate under similar regimes, enjoying their advantages and suffering their disadvantages.

Among the benefits are certainly the prospect of reducing country and currency risk, creating a more stable economic climate,  and encouraging investment.

Dollarization also offers an efficient investment alternative for households when incomes are in national currencies and inflation erodes their purchasing power, especially when the prices of many goods and services are either denominated in foreign currency or regularly indexed to changes in the exchange rate.

Dollarization can also drive new financial markets by facilitating, on the one hand, investments in private sector securities and, on the other hand, the integration of the domestic economy into international markets.

Finally, at times of soaring inflation, currencies may complement one another in the sense that the foreign currency performs the functions that the national currency does not perform well or can no longer perform.

Nevertheless, despite the benefits, dollarization can have negative effects.

First, because it makes the financial system more fragile. Indeed, the increase in transactions in a foreign currency implies that the domestic central bank is able to supply the banks in the event of, for example, massive withdrawals of deposits in that currency. There is also an increased risk of default for those who borrow in dollars but receive their income in the national currency. Moreover, in the particular case of the DRC, the free circulation of foreign currency constitutes a supply opportunity for border markets, condemning commercial banks to a permanent and costly import of banknotes.

Second, because a country that has partially or wholly abandoned its own currency undermines its ability to directly influence its economy and manage its monetary policy. In addition, the profit from issuing its currency - the "seigniorage" - is (largely) transferred to the issuing country.

Finally, because the country issuing the currency has greater power over the financial system of the dollarized country. The cases of Commerzbank and BNP Paribas - although nationals of non-dollarized countries - will naturally raise concerns: having granted loans denominated in US dollars and processed by correspondent banks in the United States to persons, entities and/or countries targeted by sanctions, they were ordered to pay fines of 260 million and 8.9 billionc US dollars respectively!

The experiences of Bolivia, Argentina and Uruguay have shown that dollarization is a persistent phenomenon. The challenge therefore lies at least in the ability of dollarized economies to reap real benefits, while ensuring that political uncertainty, deep macroeconomic imbalances and public distrust of the national currency, which are the ultimate causes, are eliminated.

Henri Plessers

Partner - Executive Director

Financialis ACM

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