1. Interest Rate Parity in Africa Diery Seck July 4th, 2017

2. African Investors deposit substantial amounts overseas although African economies need to mobilize large amounts; WHY?
No investment vehicles available in Africa
Tax evasion and loot from corruption
To avoid instability and institutional risk
To arbitrage from lack of parity between savings rates in Africa and Overseas

3. Initial remarks
The study will focus on the economic motives: Interest rate arbitrage
Sample: Most African countries with sufficient data, 1990 – 2016
Data source: International financial Statistics, IMF, Annual data
US used as benchmark

4. Theory of Interest Rate Parity
Under assumptions of 1) capital mobility and 2) perfect substitutability, in equilibrium investors will be indifferent to deposit interest rates that are available in banks of country A and country B.

5. Investor has 2 investment options:
Option A: At home deposit units of Local Currency and earn
Final income: LC *(1+iLC) ; iLC : interest rate on local currency
Option B: - Buy US Dollars for units of Local Currency: /St
Deposit the US Dollar amount into a US Bank; St = Spot exchange rate
At the end of the period he will collect (10.000/St)*(1+iUS) *E(St+1)
  E(St+1) = Expected Exchange rate at end of period
iUS = interest rate on US deposits
Under Interest Rate Parity, Options A and B are equivalent

6. Uncovered Real Interest Rate Parity: (1+iLC) = (E(St+1)/ St) * (1+iUS)
(1+iLC) = (E(St+1)/ St) * (1+iUS)

7. Factors that can impede Interest Rate Parity
Significant transaction costs
Tax implications on interest income and on gains from exchange rate transactions
Political risk
Different risk levels of US vs Home assets
Different levels of liquidity of home vs foreign assets

8. The Empirical Evidence: 3 tests
Test 1: Are real deposit interest rates POSITIVE in Africa?
Test 2: Are real deposit interest rates HIGHER in AFRICA than in the US
Test 3: Does the Uncovered Interest Rate Parity hold for African Economies?

9. Average Inflation Rates of African Countries
Average %
USA
2.37
ALGERIA
9.07
EGYPT
LIBYA
3.60
MOROCCO
2.51
BENIN
4.69
CAMEROON
3.66
COTE D'IVOIRE
3.96
SENEGAL
2.71
TOGO
4.35
BOTSWANA
8.61
CAPE VERDE
3.36
GHANA
19.77
KENYA
12.25
MAURITIUS
5.56
NIGERIA
19.21
SEYCHELLES
4.87
SOUTH AFRICA
7.06
Source: IFS, IMF, June 2017

10. Result # 1: Real Deposit Interest Rates
Over the period 1990 – 2016 (26 years), most African countries have registered positive real deposit interest rates

11. Average Real Deposit Interest Rates 1991-2016
USA
0.28
ALGERIA
-2.68
EGYPT
-0.22
LIBYA
1.22
MOROCCO
2.57
BENIN
5.22
CAMEROON
1.34
COTE IVOIRE
5.49
SENEGAL
6.22
TOGO
4.95
BOTSWANA
0.00
CAP VERDE
4.92
GHANA
-1.06
KENYA
MAURITIUS
3.31
NIGERIA
-4.75
SEYCHELLES
SOUTH AFRICA
2.63

13. Result # 2: Difference of Real Interest Rates in Africa and USA
Over the period 1990 – 2016 (26 years) average real deposit interest rates were higher in most African countries than in the USA

14. Difference Between Average Real Deposit
Interest Rates of African Countries and USA
, in %
Country
Difference
ALGERIA
-2.684
EGYPT
-0.224
LIBYA
1.225
MOROCCO
2.577
BENIN
5.231
CAMEROON
1.337
COTE IVOIRE
5.501
SENEGAL
6.230
TOGO
4.959
BOTSWANA
-0.420
CAP VERDE
4.918
GHANA
-1.062
KENYA
-0.190
MAURITIUS
3.308
NIGERIA
-4.753
SEYCHELLES
1.217
SOUTH AFRICA
2.627

16. Result # 3: Interest Rate Parity
Over the period 1991 – 2016, Interest Rate Parity relative to the US Dollar did not hold and was in favor of African Countries

17. Differential Between Local Deposit Rate and Arbitrage US Rate
COUNTRY
DIFFERENTIAL
ALGERIA
-4.490
EGYPT
-7.486
LIBYA
-1.512
MOROCCO
-3.223
BENIN
-6.892
CAMEROON
-3.644
COTE IVOIRE
SENEGAL
TOGO
BOTSWANA
-7.037
CAP VERDE
-7.094
GHANA
KENYA
-7.371
MAURITIUS
-7.959
NIGERIA
SEYCHELLES
-4.454
SOUTH AFRICA
-8.741

19. In Summary: Over the period 1991-2016
On average real deposit interest rates were positive for most African countries
On average real deposit interest rates of most African countries were higher than in the US
Uncovered Interest rate parity does not hold and the differential is in favor of African countries i.e. it is better to invest in Africa than in the US
 The empirical evidence does not support the hypothesis that African invest abroad for economic motives.

20. Thank you.