The Causes and Impact of Myanmar’s Kyat Volatility
This piece was authored by Inle Advisory Group Spring Research Assistant, Nathan Ives.
Myanmar’s economic emergence from nearly six decades of military rule leaves the new National League for Democracy (NLD)-led government to grapple with serious challenges, including whether to build upon or create from scratch fiscal and monetary policies to allow stable economic growth and development. An ongoing challenge is dealing with a volatile currency, the Myanmar kyat (symbol “K”). With assistance from the International Monetary Fund (IMF), the Central Bank of Myanmar (CBM) in April of 2012 officially transitioned the kyat to a managed floating regime overseen by the CBM and the IMF. The kyat immediately depreciated against the U.S. dollar and in the ensuing years, particularly in the past six months, the value of the kyat has swung wildly. Myanmar’s governments in the last several decades have all struggled with monetary policy; with especially high expectations for economic development, the NLD will have to implement comprehensive reforms to avoid vulnerabilities that could potentially cause market crises or stop economic growth in its tracks.
Myanmar maintained a multiple exchange rate regime from 1977 until 2012, with an official exchange rate pegged to the special drawing rate (SDR) at K8.50847 per one SDR. This rate applied only to public sector transactions; the private sector exchange rate followed official and black market rates, causing discrepancies throughout the market. The gap was nearly 300% in 1990, and at one point it reached 24,200% in 2007 when the official rate was K5.6303 to US$1 and the black market rate stood above K1,300. This excessive gap underlines how overvalued the Myanmar kyat became and how that contributed to foreign currency shortages, rent seeking and corruption, unsustainably large current account deficits, balance of payments crises, and stop-and-go macroeconomic cycles, all of which are damaging to economic growth as well the livelihoods of Myanmar citizens.
The previous Union Solidarity and Development Party (USDP) government sought to deal with the overvalued currency, working with the IMF to rationalize its exchange rate regime and give greater independence to the CBM. Following the float, the exchange rate was set to converge with the black market rate and its full management was given to the CBM. Since the float, questions have been raised about the CBM’s ability to manage exchange rates given the continuation of two exchange rates. The CBM holds daily foreign exchange auctions with commercial banks to set the daily reference rate based on the auction results. The IMF is advising the CBM to deliver at the market exchange rate, yet there is continued evidence of a parallel market for kyat. The evidence that the parallel exchanges still exist is a function of the CBM’s inadequate auction process. In February, the Myanmar Times wrote, “The [CBM] often struggles to meet [banks] appetite from its own modest reserves. Just a few weeks ago banks were asking the [CBM] for as much as [US]$17.8 million at a daily auction, with the [CBM] only able to supply [US]$200,000.” The impetus to trade on a parallel market is further propelled by the inadequate interbank exchange that some bankers have labeled “a joke”. This directly suggests Myanmar’s kyat was and is suffering from overvaluation.
In 2016, the kyat exchange rate became increasingly volatile as it made significant gains against the U.S. dollar. Between February 1 and 10 the kyat rate appreciated almost 5%. This volatility even caused banks to close their foreign currency desks as they suffered heavy losses on U.S. dollar holdings given the appreciation. For example, Myanmar bank KBZ suspended dollar buying and “[n]early all LED boards displaying daily exchange rates” were turned off during that period. This depreciation was followed by an appreciation in April, a week after a NLD-led government took office, the CBM reported an exchange rate of 1,192 kyats per US dollar, an improvement from the rate of 1,310 kyats per dollar earlier this year. The economic impacts from this are being felt by local and expat communities and may have a negative impact on the country’s trade volumes, economic stability, and foreign investment unless the NLD can implement effective policies to combat uncertainty in its currency.
Further complicating the CBM’s efforts are increases in natural resource revenues, FDI, and other financial inflows that exert upward pressure on the exchange rate. Myanmar’s main exports are agriculture-based products, including rice, beans, corn and rubber, as well as wood products, timber, jade and oil and gas. Termed as a resource curse, a country with strong commodities economies becomes so tied to those commodities for growth that every other sector is crippled. This causes negative externalities, and often a currency overvaluation via the ‘Dutch disease’ that removes the incentive to develop other industries. Sector reforms that address the real exchange rate would promote industry in the non-commodities sectors, and this monetary policy would have positive externalities: prompting higher foreign currencies reserves, supporting growing industries, and encouraging FDI through stability . The Dutch Disease will only become more exacerbated as Myanmar further develops its commodities market.
As Myanmar is transitioning towards democracy and implementing fiscal reforms it is particularly vulnerable to fiscal market crisis. In recent months it has seen wide swings in the nominal exchange rate, suggesting its currency is overvalued. In February it depreciated to K1,310 per dollar, an amount not seen since the political crisis in 2008, then swung to its current level in April at K1,192 per dollar. The export market driven by commodities inflates the real exchange rate and is exacerbated by parallel market exchange; moreover, the IMF proposals limit growth by not addressing instability in reforms.
The new NLD government will have a host of challenges to tackle in its first few months, particularly on core monetary policy. For one, the NLD will have to continue to strengthen the CBM’s independence, a priority it has already cited, as well and build its capacity. The CBM in the short term should focus on growing foreign currency reserves through a more robust daily auction, and in the long term, regulate and promote an accessible interbank exchange. Additionally, the NLD should encourage a monetary policy with an undervaluation program that can stimulate growth in an economy. It is important to implement reforms that first are segmented and support stability. Any reform should not only promote broad inclusive growth, but support a whole range of economic sectors. This would promote investment into institutions that require development of rule-of-law, investor protection, and anti-corruption measures, bringing much needed stability to Myanmar’s financial and monetary systems. With that stability, the NLD government could then develop foreign currency reserves to protect against depreciation, and strengthen against outside economic shocks.