The Reduction of Fiscal Space in Zambia due to Dutch Disease and Tight-money Conditionalities

Weeks, John

Abstract

During 2005-2006, appreciation of the Kwacha, Zambia’s currency, had a significant negative impact on public income. This exchange-rate effect received little notice in the debate over macroeconomic policy. The appreciation reduced fiscal space largely because of binding IMF conditionalities on monetary polices. The fiscal effect had two major revenue components: a fall in the domestic-currency income equivalent of official development assistance and a fall in trade taxes. In 2005, the negative effect on the public budget of the Kwacha appreciation w as largely balanced by the positive impact on reducing external debt service. This positive impact ended, how ever, with debt relief and w as almost zero after 2005. Obviously, these revenue effects, though little noticed, had negative implications for Zambia’s ability to achieve the M DG s. The Zambia experience underscores some important general lessons. It indicates, for example, the necessity to coordinate fiscal, monetary and exchange-rate policy in order to achieve sustained growth, employment generation and poverty reduction. Most important, this experience is also a clear example of the dysfunctional consequences of having low -inflation targets rule monetary policy. In the context of currency appreciation, setting lim its on the domestic money supply prevents effective exchange-rate management. This necessarily creates, as a by-product, larger fiscal deficits and, consequently, m ore public borrow ing. And these negative fiscal consequences could significantly constrict the resources that some developing countries need to achieve the M DG s.

Citation

Weeks, J. (2008). The Reduction of Fiscal Space in Zambia due to Dutch Disease and Tight-money Conditionalities. Country study (International Poverty Centre), 14,

• Journal Article Type: Article
• Publication Date: Jan 1, 2008
• Deposit Date: Feb 23, 2009
• Publicly Available Date: Apr 13, 2021
• Print ISSN: 1819-897X
• Peer Reviewed: Not Peer Reviewed
• Volume: 14
• Publisher URL: http://www.ipc-undp.org/pub/IPCCountryStudy14.pdf