Exchange Rate Study

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This report considers alternative exchange rate arrangements for EAC countries in the transition to a monetary union. This paper by Christopher S. Adam (Oxford University), Pantaleo Kessy (Bank of Tanzania and IGC), Camillus Kombe (Bank of Tanzania) and Stephen A O’Connell (Swarthmore College) is the outcome of research collaboration between staff of the Department of Economic Research and Policy at the Bank of Tanzania and the International Growth Centre. The paper makes several observations, including that while existing exchange rate policies differ in some important ways across the EAC, the Partner States have expressed a desire to achieve a common exchange rate policy during the transition to union.

Second, since the transition period is of uncertain duration, the exchange rate arrangements adopted during the transition should be consistent with macroeconomic stability and financial development on a country-by-country basis. Third, the exchange rates at which national currencies are converted to the new union-wide currency should be consistent with macroeconomic stability, both in the final run-up to union and in the first few years of union. Finally, the transition period should be long enough to lay the institutional groundwork for a successful and durable monetary union. The transition to a union is conceptualised as a two phase process. In an initial convergence phase, the Partner States work to achieve a set of preconditions designed to limit the union’s exposure to internal economic strains. When the preconditions have been satisfied, the partners may choose to enter the final, conversion phase, marked by the announcement of a predetermined date for union. This paper suggests that the appropriate exchange rate policies for EAC countries differ across the two phases of the transition.