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Unification of the Segmented Foreign Exchange Market in Myanmar

February 2013Koji KUBO

Institute of Developing Economies (IDE-JETRO)

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Research Questions

• Does the move to a managed float exchange rate system in April 2012 signify the unification of the foreign exchange market?

• What are remaining challenges to establish the ground for exchange rate policies?1. Transmission channel2. Market instruments

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Outline of Presentation

1. Unified foreign exchange market and segmentation: Benchmark case

2. Market structure before the reform3. Reform and remaining challenges4. Policy recommendations

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UNIFIED FOREIGN EXCHANGE MARKET AND SEGMENTATION

Section 1

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1. Hypothetical benchmark:banks are in the middle. (1/2)

Household Household

Money

Changer

Exporter Importer

Money

Changer

Authorized

Dealer Bank

Authorized

Dealer Bank

Authorized

Dealer Bank

Central

Bank

Interbank Market

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1. 1. Hypothetical benchmark:banks are in the middle. (2/2)

• Foreign exchange dealer banks as main counterparties

• Transmission channel of exchange rate policies

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2. Causes of segmentation

1. Price (exchange rate ) controls– Pegged rate and parallel rate

2. Regulations– Regulations on the uses and sources of foreign

exchange• Ban on portfolio investment• ‘export-first, import-second’ policy (export earnings and

US dollar cash)

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3. Why is segmentation a problem?

• Implicit tax on exporters and implicit subsidies on importers

• Price distortion and inefficient resource allocation

• Block transmission channel: Financial authorities cannot control all segments.

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MARKET STRUCTURE BEFORE THE REFORMSection 2

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Two segmentations in Myanmar

1. Between public and private sectors– Official exchange rate in the public sector– Parallel exchange rates in the private sector

2. Within private sector– Conditionality of import licensing• Export earnings (Foreign Currency Deposits)• Dollar cash• Foreign exchange certificate (FEC)

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The gaps among export earnings, US dollar cash, and FEC

600

700

800

900

1000

1100

1200

1300

1400

0708

1507

0923

0711

0508

0103

0803

0308

0508

0807

0308

0828

0810

2308

1222

0902

2409

0505

0906

3009

0825

0910

1909

1214

1002

1610

0423

1006

1810

0816

1010

1210

1207

1102

0811

0405

1106

1011

0809

1110

0411

1205

1202

09

kyat

s pe

r U

S do

llar

US dollar, dealer selling rate

FEC, dealer selling rate

FCD, dealer selling rate

Cyclone Nargis

Source: Japan External Trade Organization, Yangon Office

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Transactions took place outside the banking system.

State Banks

Formal

Exporters

Formal

Importers

Account transfer of

FCD

Payment in kyat

Informal

Exporters

Informal

Importers

Illicit dollar

kyat

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REFORM AND REMAINING CHALLENGESSection 3

1. Reforms under the new government

• October 2011: opening of money change counter• November 2011: foreign exchange dealer license to 11

banks (later 14 banks)• April 2012: move to a managed float system

– Daily announcement of Central Bank reference rate– Auction of foreign currency with AD banks

• April 2012: abolition of ‘export first’ policy• August 2012: permission of int’l banking services at

private AD banks• December 2012: money changer license to non-banks

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Mark-up of export earnings disappeared in May 2012, but there were some gaps among rates.

800

810

820

830

840

850

860

870

880

890

900

1204

0212

0409

1204

2912

0514

1205

2112

0530

1206

1112

0621

1206

2912

0706

1207

1612

0725

1208

0112

0810

1208

2012

0830

1209

0712

0914

1209

2112

0928

1210

0812

1015

1211

0112

1108

1211

1912

1129

1212

1012

1219

1301

0713

0115

1301

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kyat

/US

dolla

r

Parallel Rate (Money changer USD selling rate)Exchange Counter (Bank USD selling rate)CBM Reference RateFCD Rate (Broker USD selling rate)FEC Rate (Broker selling rate)

Source: Japan External Trade Organization, Yangon Office

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2. Remaining challenges (1)

• Segmentation between public and private sectors

• Segmentation within private sector– Price gaps– Large parallel market: Banking sector is not

intermediating the foreign exchange transactions.• Domestic account transfer and parallel market• Limited transmission channel of exchange rate policies

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2. Remaining Challenges (2)

• Underdeveloped financial market– Limited instruments for sterilization

Sterilization instruments are limited.Kyat cash is predominant in small financial market.

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Source: IMF, International Financial StatisticsNote: CIC stands for Currency in circulation.

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POLICY RECOMMENDATIONSSection 4

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Policy Recommendations (1) Transmission mechanism

• Encourage exporters to sell their foreign exchange to banks1. Stick: Tax on domestic account transfer of export

earnings2. Carrots: Discount market of L/C3. CBM’s commitment to convertibility• Larger intervention when necessary

4. People’s expectation on stable exchange rate (when kyat is weakening, people do not release dollar)

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Policy Recommendations (2) Instruments for sterilization

• Banking sector development1. Foreign currency deposits as a source of kyat

deposits2. Prohibition of foreign currency loans to prevent

dollarization

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Thank you for listening!

For inquiries and comments, e-mail to koji_kubo@ide-jetro.org

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TREND OF REAL EFFECTIVE EXCHANGE RATE

Appendix

Real effective exchange rate: appreciation exceeds 100%

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↑　 Appreciation