In a significant step to address longstanding economic challenges, the IMF recently completed its first review under the 48-month Extended Credit Facility (ECF) for Ethiopia. This arrangement, part of a comprehensive $10.7 billion support package from global partners, provides Ethiopia with about $3.4 billion in support to stabilize the economy, restore debt sustainability, and catalyze private sector-led growth. As Ethiopia navigates through transformative changes under its Homegrown Economic Reform Agenda (HGER), this program aims to manage macroeconomic imbalances, focusing on currency stability, fiscal reform, and structural adjustments across key sectors. Below is an in-depth analysis of Ethiopia’s economic trajectory, the reforms undertaken, and the outlook for the near future.
Exchange Rate Reform: A Fundamental Shift
One of the most impactful steps taken under the ECF has been Ethiopia’s shift to a market-determined exchange rate system, a change that addresses the long-standing overvaluation of the birr. Previously, Ethiopia operated with a fixed exchange rate, causing distortions and creating substantial demand for foreign exchange in parallel markets. This shift has brought the official exchange rate close to the parallel market rate, effectively reducing the premium and encouraging greater transparency in currency transactions. However, liquidity remains constrained, with banks cautious in their dealings and the interbank market seeing limited activity. This adjustment has led to an increase in the supply of foreign currency, although some unmet demand continues to impact businesses adjusting to the new rate.
The transition to a floating exchange rate, however, is progressing smoothly. This development aligns with broader measures, including lifting import restrictions on 38 items and allowing commercial banks to handle foreign exchange previously held by the National Bank of Ethiopia (NBE). Notably, the FX market’s bid-offer spread has narrowed considerably, reflecting improved market alignment. While more liquidity and continued adjustment are needed, the initial response from both formal and informal sectors signals confidence in the new currency regime.
Fiscal Consolidation and Revenue Mobilization
The Ethiopian government has made strides in fiscal consolidation by cutting public spending, particularly in non-priority areas, and enhancing revenue mobilization through tax reforms. These steps align with Ethiopia’s new National Medium-Term Revenue Strategy, which focuses on expanding the VAT base, streamlining exemptions, and modernizing the tax administration framework. Such reforms have been facilitated by legislative changes to VAT laws, the introduction of excise stamps on specific goods, and a mandate to collect customs duties in line with the NBE’s daily exchange rates.
On the expenditure side, a supplementary budget introduced measures to cushion vulnerable populations from the immediate impact of the reforms, including a transitional fuel subsidy to stabilize consumer prices. Ethiopia’s Productive Safety Net Program (PSNP) has also been scaled to extend more robust social protections, aiming to protect lower-income households from inflationary pressures. The government’s commitment to expanding social safety nets reflects a balanced approach to economic reform, recognizing the importance of safeguarding the population from the potential socio-economic strain of adjustment policies.
Debt Management and SOE Reforms
Restoring debt sustainability is a critical component of Ethiopia’s reform agenda, with the government actively negotiating debt restructuring agreements. Ethiopia has shown a strong commitment to managing its public sector debt, which includes planned restructurings under the Common Framework process with official creditors. The authorities aim to reach an agreement with official creditors in the coming months, followed by negotiations with commercial creditors. Additionally, the debt burden from major infrastructure projects, such as the Koysha dam, is under consideration for restructuring, with the government exploring concessional borrowing options.
Significant structural reforms are also underway within Ethiopia’s State-Owned Enterprises (SOEs), which have traditionally been a major source of fiscal stress. The government implemented the first phase of a multi-year electricity tariff adjustment, targeting financial sustainability for Ethiopian Electric Power (EEP). These changes aim to stabilize the energy sector’s finances, setting the stage for improved service delivery and greater investment in infrastructure. SOE reforms are essential for macro-financial stability and represent a shift toward operational efficiency and financial accountability.
Monetary Policy and Inflation Control
Ethiopia’s transition toward a restrictive monetary policy is intended to counter inflationary pressures and stabilize the economy. The IMF and Ethiopian authorities have advocated for a gradual shift from quantitative controls to interest rate-based policy tools. This change is reflected in Ethiopia’s Treasury bill market, where rates are being adjusted to align with the monetary policy stance. Open market operations (OMOs) by the NBE have already absorbed substantial liquidity, helping curb inflationary pressures. The government’s policy of ending monetary financing of fiscal deficits further reinforces the commitment to price stability.
With inflation still high, Ethiopia’s authorities plan to introduce more substantial rate hikes in 2025. This cautious approach to monetary policy aims to moderate inflation without destabilizing economic activity. The anticipated reduction in inflation, partly driven by these measures, is expected to create a more predictable environment for businesses and consumers alike.
Outlook and Risks
Looking forward, Ethiopia’s economy is projected to stabilize and grow at a rate of 7.5–8% annually over the medium term, bolstered by private sector-led growth and increased foreign direct investment. However, the path to recovery is fraught with challenges. Key risks include potential delays in external financing, social unrest related to rising prices, and the regional security landscape. With Ethiopia’s program hinging on sustained reform momentum and external support, any deviation from planned fiscal and monetary targets could amplify economic vulnerabilities.
Additionally, exchange rate fluctuations and commodity price volatility pose risks to Ethiopia’s economic stability. The government must maintain a delicate balance, ensuring continued progress in reforms while remaining flexible to adapt to unforeseen economic shifts. Success will largely depend on Ethiopia’s ability to attract investment and continue its structural reforms, fostering a robust private sector and improving economic resilience.
Ethiopia’s reform journey under the ECF reflects a comprehensive and ambitious effort to recalibrate its economy. By committing to currency liberalization, fiscal discipline, and SOE reforms, Ethiopia is addressing longstanding challenges that have constrained growth and limited economic opportunities. The IMF-backed program is a promising step toward economic stability and growth, setting a strong foundation for Ethiopia’s private sector and signaling to the international community its determination to overcome economic obstacles.
