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Ministry of Planning & International Cooperation

Economic Studies & Forcasting Sector

Issue (37) September, 2018

The exchange rate is one of the most sensitive indi-cators to political and economic volatility, conflict and war. It reflects the stability or instability of any coun-try. As a result of the successive shocks sustained by Yemen’s national currency during the ongoing war, the exchange of the US dollar increased by 33.3% in just two weeks and peaked at YER800/US dollar at the end of September 2018, influenced by, among other factors, the increase in global prices of fuel imports, which add-ed more pressure on the exchange market that is already suffering from foreign exchange scarcity.

In a country that relies mainly on imports to cover most of its food and non-food needs, the rapid collapse of the national currency has confused the citizens and forced large businesses to close their doors for several days. Prices have skyrocketed, thus increasing the cost of minimum food basket by 27.6% in the first week of October, compared to the average in August 2018(1). As a result, approximately 3-5 million additional people may likely to join people identified as in acute need of emergency food assistance(2).

In response to the currency crisis, many fruitful mea-sures were taken and grants were provided to support the national currency and curb the depreciation of the Yemeni Riyal against the US dollar. Thus, the exchange rate decreased to less YER600/ US dollar on November 19, 2018. Whatsoever the situation is, sustaining the positive impact of these interventions requires mobiliz-ing more donor support, resuming hydrocarbon exports and resolving the crisis of monetary authority division in the country.

IntroductIon

Riyal Devaluation Ignites Inflation

1st: Exchange rate shock.2nd: Impact of exchange rate shock on inflation.3rd: Response to crisis.4th: Conclusion.

Facts and IndIcators

The parallel exchange rate in October 2018.

33% of retirees in the GAIP with-out pensions since March 2017.

YER 729 / USD Over 41,000 Retirees **

people in need of humanitarian assistance in 2018 *.

people displaced (IDPs & returnees) as of June 2018 .

22.2 million 3.3 million *

people are food insecure in December 2017.

Cumulative decline in real GDP during 2015-2017.

6 in 10 * 47.1%

90% of the population lack access to public electricity.

Sources: * UN Agencies.** General Authority for Insurance and Pensions (GAIP), 2017.*** WB, June 2016.

24.3 million ***

In thIs edItIon:

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Yemen’s national currency has gone through tough times over the last few months. However, the devaluation of the riyal accelerated at unprecedented levels during the second half of September 2018 when the exchange rate peaked at YER800/ USD on September 30 and October 1, 2018, compared to YER600/ USD in mid-September 2018, increasing by about 33.3% within two weeks. As a result, the cumulative change rate of the parallel US dol-lar exchange rate reached 272.3% at the end of Septem-ber 2018, compared to the prewar period. This collapse has caused great panic among citizens of all groups, both rich and poor. Large stores closed down and suspended commercial activities and there was a severe shortage of fuel. Moreover, the rapid fluctuations in the exchange rate have confused business owners and traders, making them unable to determine the costs and selling prices of their goods.

Yemen’s national currency experienced a severe shock that left people bewildered, paralyzed the economic ac-tivity and made economic experts distracted and unable to explain the emerging factors that led to the collapse of the national currency within a few days. Most likely, the prominent emerging factors are represented in the failure / non-holding of peace talks in Geneva on September 6 2018, that were hoped to address, among other issues, the division in the monetary authority in the country, which has disappointed the Yemeni people. In addition to the growing demand for foreign currency to cover the imports of fuel, the global prices of which increased significantly during August-September 2018, and the tendency to in-crease imported quantities in anticipation of any impli-cations of the escalating military operations in Hodeida on the influx of imports, in addition to the poor timing of certain economic decisions(A). These factors were accom-panied by soaring speculations in the exchange market.

First: Exchange rate shock:

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Issue (37) September, 2018 Page 2 Yemen Socio-Economic Update

Annual average of the parallel exchange rate

Parallel exchange rate �uctuations during September -November 2018 (YEM/USD)

2015 2016 2017 2018

JAN

FEB

MA

R

APR

MAY JU

N

JAN

FEB

MA

R

APR

MAY JU

N

JUL

AUG

- D

EC

JAN

FEB

MA

R

APR

MAY JU

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JUL

AUG

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DEC JU

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JAN

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MA

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September September October October October November

600 600

800

697

730746

183115023015

215.0 230.8287.4

369.6

529.5

2014 2015 2016 2017 Jan.-Oct. 2018

215 215 215225 225 225 225

245 251260 265 271

288296

287

303 302 306 307313

320

341348

361355

366 371 374391 410

436

362

465476 486 485 491 497

485

549

630

729

Figure (1): Parallel Exchange Rate (YER/USD)

Figure (2): Key factors affecting foreign exchange rate

Figure (1.1): $170 million to finance ba-sic commodity imports by CBY in Aden

Source:CBY, 2018.

• Thedivisionineconmicinstitutionsdisruptedthemonetaryandfiscalpolicytoolsandstimulatedeconomicsquabblesandconflictingpoliciesoftheoneeconomyandonecurrency.

• Expansionofinformalactivitiesofforeignexchangecompaniesandaccumulationofliquidityoutsidebanks,whichfacilitatesspeculationintheexchangemarket.

• ConstraintsonthetransportationofcashliquidityinternallybetweengovernoratesandexternallyfromandtoYemen.• Politicalvariables,waratmosphere,ambiguityanduncertainityaboutthefutureofthepoliticalprocess.

• Suspensionofhydrocarbonproductionandexports,exceptforsmallquantitiesestimatedatabout$75millionpermonth,thatgoespartiallytofinancesomeprojectsinHadramout.

• DeclineinremittancesmadebyYemenisworkingabroadasaresultofimposingextrafeesonexpatsinSaudilabormarket.

• Cessationofdirectforeigninvestment,tourismreturnsandforeignloansandlimitedforeignexchangereserves.

• IncreaseinglobaloilpriceswhichmeanshigherdemandforUSdollartoimportfuel.• Excessiveprintingandissuanceofbanknotes,exceeding130%comparedto2014•DisruptionofAdenRefinerythatusedtocover44%ofthedomesticfuelneeds.• ConstraintsimposedbytheGlobalFinancialSystemonYemen’sbankingsystem.

Institutional constraints

Shortage of foreign ex-

change

Increasing demand for foreign cur-

rency

Interestingly, all formal measures, including security measures against exchange dealers, which have been the most effective tools to mitigate the exchange rate fluctuations, have failed to curb the rise in the US dollar ex-change rate this time except Saudi Arabia’s announcement of depositing a $ 200 million grant in the Central Bank of Yemen in Aden. The bank began immediately to open documentary credits for basic commodity importers at an exchange rate of YER585/ US dollar. This step affected speculators and forced them to reduce the exchange rate from YER800/ US dollar to YER700 / US dollar on October 2, 2018. However, the exchange rate resumed increasing gradually and exceeded YER745/ US dollar by late October 2018 and then decreased again to less than YER700/ US dollar in the first half of November 2018 following the provision of about $170 million by the Central Bank of Yemen (CBY) in Aden to finance the basic commodity imports. This confirms the crucial role of foreign cash avail-ability in influencing the exchange rate.

98,162,5151

disbursed from Saudi Arabia’s deposit

$Wheat

Sugar

Rice

Milk

Veg. OilUSD 1 = YEM 585

O�cial ER before Nov. 5, 2018

Corn

$170 million

20,374,5122

33,321,0263

1,720,0004

12,722,9155

3,626,6126

$

$

$

$

$

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Issue (37) September, 2018 Page 3 Yemen Socio-Economic Update

2014 2015 2016 2017 2018

10.4

0.0

20.0

10.0

40.0

60.0

80.0

23.9*

16.3

Infaltion rate % % change in Exchange rate

11.915.0**

35***

67.4****

39.3

25.2

0.0

30.0

50.0

70.0

Figure (3): Relationship between Inflation rate and Exchange rate, end of period (December/December%-100)

Source:CSO, consumer price inflation rate, Dec. 2016. * Average of inflation in 2015 estimated at 30%. ** MOPIC, Inflation estimates of 2017. *** UNDP, Inflation estimates of 2018. **** October 2018/December2017%-100 .

Fuel imports are one of the largest commodities that deplete foreign exchange. The recent increase in global oil prices during August –September 2018 and speculations in the exchange market under the influ-ence of political and economic variables are likely among the main factors that have triggered the recent exchange rate crisis.

The increase in global oil prices has led to a significant rise in the demand for foreign exchange to im-port fuel in a short period, despite the already low supply of foreign exchange. This has put considerable pressure on the exchange market, created additional demand for foreign currency to import fuel and made importers of other commodities endeavor (speculate) to obtain their needs of US dollar, even at high prices. The higher the exchange rate, the more money exchange institutions endeavor to resist any decrease in the exchange rate to avoid any losses. While the exchange rate appreciation in the parallel market was due to the rise in global crude oil prices, it was also a major reason for the increase of domestic fuel prices due to dependence on fuel imports from abroad to cover most of the domestic market needs.

Petrol and diesel prices rose by 66% and 48.1% respectively in the 4th week of September 2018 compared to mid-August 2018 influenced, among other factors, by exchange rate crisis. There was a severe shortage in the supply of petrol and diesel from late September until the first half of October 2018. There has also been a persistent shortage of cooking gas in most of Yemen’s governorates and gas price rose by about 48% during the same period despite the fact that it’s produced locally and has nothing to do with the exchange rate fluctuations (figure 4). Although fuel prices increased more in 2015 but the current fuel crisis was a fatal blow to a collapsed economy that began to cope with the war consequences and had a severe impact on the lives of citizens due to the depletion of savings, lack of income and collapse of the purchasing power over the years of war

2- Fuel price escalation:

Rise in global oil prices

Increase in domestic fuel

prices

Growing demand on US

dollar

Higher pressure on the ex-

change market

Exchange rate appreciation

The Global price shocks, exchange rate fluctuations, excessive cash supply, growing tax burdens, double customs duties and closure of some land and air ports are among the most important factors driving inflation dynamics in Yemen. The external shocks of global prices and the exchange rate are usually reflected on the inflation rate in the immediate and short terms. Preliminary estimates by the United Nations Development Program (UNDP) indicate that consumer price inflation increased by 35% in 2018 (Figure 3). Below is an overview of the implications of the recent shock of global oil prices and exchange rate on domestic prices of fuel and basic commodities, being the most important factors that influence the general inflation rate and economic, social and humanitarian conditions of the population.

Second: Implications of the exchange rate shock on inflation:

1- Rise of inflation rate:

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Issue (37) September, 2018 Page 4 Yemen Socio-Economic Update

20182018 20182018 20152015

158

362

601

150

1925

3155

Cooking gas (YER/18 Kg Cylinder)Diesel (YER/Ltr)Petrol (YER/Ltr)

AugustFeb./ Mar.AugustFeb./ Mar. 4th wk Sep. 4th wk Sep.

201820182015AugustFeb./ Mar. 4th wk Sep.

4670

374

554

Figure (4): Price of Petrol, Diesel and Cooking Gas (YEM)

Figure (5): Relationship between the parallel exchange rate and fuel prices (YEM/Unit)

Source:WFP,October 2018.

Source:WFP, October 2018.

2016 2017 2018

JAN

FEB

MA

R

APR

MAY JU

N

JAN

FEB

MA

R

APR

MAY JU

N

JUL

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NO

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2015

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00

Petrol Parallel Exchange Rate (YR / USD)DieselCooking Gas

100

200

300

400

500

600

700

800

900

1000

2000

3000

4000

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ing

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(YEM

/18

kg c

ylin

der)

Petr

ol a

nd D

iese

l (YE

M/L

t)

By governorate, most of the areas in Ye-men were affected by the fuel shortage and increasing prices. According to a survey by the Sana’a Center for Strategic Stud-ies, the largest increase in Petrol prices was in Hadhramaut, where the price of 20 liters of Petrol rose from YER6,400 at fuel stations in August 2018 to YER21,000 in the black market during the second half of September 2018, an increase of 230%. On the other hand, Marib governorate was least affected by this crisis due to its reli-ance on the Marib refinery to cover its do-mestic fuel needs and wasn’t affected by the shocks of exchange rate and global fuel prices (see Annex)(5).

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Issue (37) September, 2018 Page 5 Yemen Socio-Economic Update

Figure (6): High prices of food commodities (YER)

Figure (7): High prices of basic food commodities on monthly basis (YEM)

Source:WFP,October 2018.

Source:WFP, October 2018.

2018201820182018

137

243292

214

318372341

498

596

313

710792

20182015

Wheat �our (YER/Kg)

AugustFeb./ Mar. 4th wk Sep.

20182015

Beans (YER/Kg)

AugustFeb./ Mar. 4th wk Sep.

20182015

Sugar (YER/Kg)

AugustFeb./ Mar. 4th wk Sep.

20182015

Veg. Oil (YER/Ltr.)

AugustFeb./ Mar. 4th wk Sep.

2016 2017 2018

JAN

FEB

MA

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2015

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100

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500

600

700

800

Wheat �our (YER/Kg) Red beans (YER/Kg) Sugar (YER/Kg) Veg. oil (YER/Ltr) Parallel exchange rate (YER/USD)

At the governorate level, figure (8) below indicates the synchronization of price changes of imported basic commodities with the devaluation of the national currency in the 4th week of September compared to the average of August 2018. The red line shows the changes in the US dollar exchange rate in governorates during the 4th week of September, compared to August 2018(4).

Ironically, Yemen’s economy used to benefit from the rise in global oil prices during the prewar period, supported by returns from crude oil and fuel exports. However, the situation has changed radically today with the cessation of hydrocarbon production and exports. People and the national economy are paying a high price for the ongoing war and the consequent disruption of hydrocarbon resources, division of eco-nomic institutions and the collapse of national currency. While the fuel crisis has forced many people to shift to fuel-efficient cars which is an advantage of the fuel crisis, it is unfortunate that a large segment of the population and bakeries resorted to use firewood to overcome the scarcity of kerosene and cooking gas and their soaring prices. As a result, cutting down trees has become a popular activity, the firewood market is blooming but the environment is at risk.

The recent exchange rate shock proved a strong correlation between the exchange rate appreciation and increase in prices of basic food commodities. The domestic market witnessed a sharp rise in the prices of imported food commodities, including wheat flour (20.2%), cooking oil (19.7%), beans (11.5%) and sugar (17%) in the 4th week of September 2018, compared to August 2018 (Figure 6). The exchange rate fluctuations have immediate influence on basic commodity prices without any delay because traders sell their commodities in Yemeni Riyal according to the latest exchange rates in the parallel exchange market regardless of the time of importing these commodities. As a result, the prices of imported goods, competing goods and goods that are produced based on imported inputs are in a state of constant fluctuation due to fluctuations in the exchange rate.

3- Soaring food prices and deteriorating food security:

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Issue (37) September, 2018 Page 6 Yemen Socio-Economic Update

The economic and humanitarian situation has deteriorated further since the end of 2017 due to, among other factors, the widening war and conflict in several areas, including Hodeida, growing number of IDPs and ongoing salary crisis of state employees in most of the Yemeni governorates. The new national cur-rency shock, which resulted in significant increase in prices and erosion of the purchasing power and coping mechanisms, was like driving a wedge in the unbearable economic and living situation. The average cost of minimum food basket amounted to YER5,552 /person/month during the first week of October 2018, in-creasing by about 27.6% compared to August 2018 and more than double (123.8%) compared to February 2015.

In light of the above, the World Food Program (WFP) estimates that some 3-5 million additional people may likely to join people identified as in acute need of emergency food assistance. Overall, the total number of people in acute need of emergency food assistance is likely to increase to 11.4-13.4 million today, com-pared to 8.4 million at the end of 2017(2). To address the consequences of such a shock, many people often resort to negative coping strategies such as purchasing less food, less expensive/preferred food types; al-locating more expenses to food and neglecting other essential expenses, in addition to increasing purchases on credit.

2015Feb. Dec. Jan. June Aug. Sep. Oct. 1st

week2017 2018 2018 2018 2018 2018

2481

3555 3827 40184350 4635

5552

Figure (9):Cost of minimum food basket (YER/person/month)

Figure (8):Percentage Price change trends for essential Imported Food commodities in W4 Sept Vs August 2018

Source:FAO, September, 2018.

Source:FAO, 2018.

18%17%

15%15%

17%

Sana'a City

Perc

enta

ge c

hang

e in

Foo

d co

mm

odity

pri

ces

% d

epre

ciat

ion

of Y

ER /

USD

W4

Sept

Vs

Aug

ust r

ates

Wheat grains(Kg) Wheat �our(Kg) Sugar(Kg) Imported Cooking oil(Ltr.) % change in exchange rate Sept W4 Vs August

Hodeidah Dhamar Hajjah Taiz Lahej Abyan Ad-Dale Aden IbbAl BaidhaShabwahHadramout

17%18%

15%

13%

16%15% 15%

17%

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

20%

0%

-20%

40%

60%

80%

100%

120%

Coping mecha-

nism

Purchasing cheaper and less favored

food

Higher purchase through

credit

allocating more expenses to food and neglecting other basic

expenses

Purchasing less food

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Issue (37) September, 2018 Page 7 Yemen Socio-Economic Update

Impact of Exchange Rate Fluctuations on INGOs Operations in Yemen International humanitarian organizations operating in Yemen are facing many challenges due to rapid

fluctuations in the exchange rate, including confusion of the organizations’ plans regarding the size of interventions and number of beneficiaries. Additionally, restrictions on cash transfers between governor-ates hinder the work of INGOs in remote areas. Due to the exchange rate appreciation, these INGOs lose part of the humanitarian support amounts to banks that receive about 5% of the value of activities carried out by INGOs in local currency.

Several measures have been announced recently in order to curb the rapid collapse of the national cur-rency (and the level of implementation of these measures is unknown), mainly the following:

Third: Response to the Crisis:

Key measures Entity Comment

1

Committed to cover the documentary credits of basic commodity importers (wheat, rice, sugar, milk, cooking oil and medicines) at the official rate which decreased gradually from YR585/ US dollar at the end of September to YR570/ US dollar on November 5, then, YR548/ US dollar on November 20, 2018.

Economic Com-mittee in Aden

Very important. If implemented early, it would have prevented the exchange rate shock. It requires a mechanism to verify the consistency of the quantities of imports on paper with actual imported quantities.

2Receiving a new cash grant of $200 million and an in-kind grant of $180 million (fuel for power plants).

CBY in Aden Has positive impact in easing the ex-change rate fluctuations

3

Allocating $10 million per month to cover part of the fuel imports of the Yemen Petroleum Company to Aden and neighboring governor-ates at the parallel exchange rate.

Economic Com-mittee in Aden

Eases pressure on the exchange rate, but it is not enough

4

Obligating exchange companies to sell foreign currency for commercial activities, especially basic commodities and fuel and sell any bag amounts within two days.

Economic Com-mittee in Sana’a

Priority is given to the allocation of hard currency to cover imports of basic com-modities and fuel

5Developing a plan to resume LNG exports, and increase crude oil production and exports from Hadhramaut and Shabwa.

Economic Com-mittee in Aden

The plan has not yet been implemented and is subjected to political variables. It’s better to reach an economic settlement that includes among others producing and exporting oil from Marib

6 Committing to assist banks to transfer their ac-cumulated foreign currency abroad. CBY in Aden Banks are still waiting for the implemen-

tation

7

Setting regulations to regulate the work of exchange companies and closing down unli-censed companies and the ones that are not bound by regulations.

Economic Com-mittee in Sana’a

and Aden

Helps regulate the exchange market and reduce speculations

2-1

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Issue (37) September, 2018 Page 8 Yemen Socio-Economic Update

Key measures Entity Comment

8

Raising the interest rate to 27% on certificates of deposit, and 17% on government bonds and increasing the interests on Wakala deposits to 23%.

CBY in AdenInterest rate policy is not effective due to the high inflation rate and weak confi-dence in the banking system.The division in monetary authority ham-pers the implementation of a consistent monetary policy across the country

9 Analyzing treasury bills offers at an average interest rate of 16%. CBY in Sana’a

10

Preventing the use of newly printed banknotes in dealings of the financial sector and fuel sta-tions, and imposing strict security measures on the transfer of cash between governorates.

CBY in Sana’a

11

Restricting the import of basic commodities (wheat, sugar, rice, milk, cooking oil) and fuel through letters of credit, and remittances under the supervision of the CBY in Aden.

CBY in AdenThe executive mechanism in this decree has been suspended to avoid any negative consequences on the flow of imports.

12Preventing the transfer of more than $10,000 to outside Yemen without a permit from the CBY in Aden.

CBY in Aden Contributes to the reduction of foreign exchange leakage.

13Increasing salaries of the civil sector personnel below undersecretary, including retirees and contractors, by 30% from September 2018.

CBY in Aden

Eases the negative impact of the exchange rate crisis on state employees in some governorates only, but the majority of employees haven’t received salaries for about two years due to the division in the monetary authority.

2-2

The currency crisis is one of the most serious economic challenges facing Yemen’s economy. It becomes more dangerous in a country that imports most of its basic needs, including food, medicine, clothing and fuel. This makes local prices and living conditions of citizens sensitive to fluctuations in international prices and successive exchange rate shocks. The recent exchange rate shock resulted in price hikes of oil (66%), diesel (48.1%), wheat flour (20.2%), cooking oil (19.7%) and sugar (17%) in the 4th week of September, compared to August 2018 average. Despite the importance of official measures taken to cope with the currency crisis, these measures are unsustainable and their impact is limited, especially since the macroeconomic policy instruments belong to one economy and one currency but they are either disrupted or contradictory.

To avoid this tragedy, several previous editions of the Yemen Socio-economic Update highlighted the exchange rate crisis; rang the alarm bell and provided several visions, suggestions and policy options which are tedious to be repeated. In summary, the key to control the currency crisis is to resume hydrocarbon pro-duction and exports, mobilize sufficient external support to cover imports of basic commodities and fuel at an official exchange rate, and overcome the division in the monetary authority in the country. Finally, reaching a political settlement is certainly the best option to control the economic and living deterioration of Yemenis.

Fourth: Conclusion

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Issue (37) September, 2018 Page 9 Yemen Socio-Economic Update

Key Sources:

Annex:

Notes:

1. Food and Agriculture Organization of the United Nations - EFRLP, Food Basket cost, October 2018.2. WFP, Potential Impact of Currency Crisis on Food Security Situation in Yemen, October 2018.3. UNDP, Presentation on inflation analysis, October 2018.4. FAO, Depreciation of Yemen’s Rial and Soaring Prices of Commodities, September, Brief Update on the impact

of rapid depreciation of Local Currency (Yemeni Rial) against US dollar on the Prices of Essential Food and Fuel Commodities, September 2018.

5. Sana’a Center for Strategic Studies, Yemen Report, September 2018.

(A) On September 3, 2018, the Economic Committee in Aden endorsed a package of measures to address the currency crisis, including the prevention of basic commodities and fuel entry into Yemen without a bank certificate approved by the CBY in Aden as of October 9, 2018. This raised concerns among some importers who feared that such decision might restrict their commercial activities. Consequently, their demand for foreign exchange increased in order to import larger quantities of such goods before the expiration of the time limit, which contributed to increasing the pressure on the national currency. It should be noted that the executive mechanism in this decision has been suspended. On September 26, 2018 (during the crisis), the CBY in Aden announced increasing the exchange rate of US dollar financing provided to basic commodity imports from YER470/US dollar to YER585/ US dollar (before decreasing it further later) but it didn’t pump enough foreign cash at that time to basic commodity importers at the specified rate. This gave a negative signal to traders in the exchange market and weakened their confidence in the national currency. Consequently, the parallel exchange rate continued to increase.

Contact PersonFor more detailed information about items in this update please contact:

Mr. Abdulmageed Albatuly Email: aalbataly@gmail.com Tel.:+967 771 555 730 www.mpic-yemen.org

“This monthly update is supported by UNICEF YCO”

O�cial and black market prices of petrol between

August and the September fuel crisis, 2018

Average o�cial price, YR per 20 liters of petrol Aug. & Sep., 2018.

Average black market price, YER per 20 liters of petrol, Sep. 15-30, 2018.

Source:Sana’a Center for Strategic Studies, Yemen Report, September 2018.