Exchange rate policy and inflation : the case of Uganda

A competitive exchange rate has also been sustained since 1990. This paper examines the determinants of inflation in Uganda, with specific attention to the relative importance of monetary, cost/push, and supply-related causes of inflation. A striking observation of the study is that inflation in Uganda is persistently a monetary phenomenon -- the monetary financing of the fiscal deficit is the main cause of sustained inflation in the economy. In addition to the links between fiscal deficits and monetization, the study investigates the causal relationship between the exchange rate and fiscal balance. The major conclusion is that monetary expansion as dominated by the financing of the fiscal deficit is instrumental in determining the pace of inflation. The exchange rate continues to be a key policy tool. During the 1980s, parallel exchange rate induced inflation was significant. Since liberalization of the foreign exchange market in 1990, there still remains a heavy focus on the exchange rate policy as a key to maintaining macroeconomic stability. The exchange rate policy tool should be used together with appropriate monetary and fiscal instruments to enable domestic and external stability of the Ugandan economy. Includes references. (Author abstract)