Logic behind the 1st Pula basket

SHARE   |   Monday, 03 October 2016   |   By Keitebe Kgosikebatho
Logic behind the 1st Pula basket

The success of the Botswana Pula is not a coincidence, according to former Government Statistician Dr Derek Hudson. According to Dr Hudson, the Botswana Pula remains one of the strongest performing currencies in the world because the Botswana Government had prepared adequately for its arrival. “The government of Botswana spent two years preparing for the adoption of Pula as the national currency,” he said. At independence in 1966, Botswana maintained its membership to the Rand Monetary Area (RMA), a regional monetary union composed of South Africa, Lesotho, Swaziland and the then South West Africa (now Namibia) that used the Rand as a common currency; in turn, the Rand was pegged to the US Dollar.

While South Africa, with a much larger economy, had a decisive influence on the exchange rate policy for the RMA, at the time the arrangement was considered appropriate for Botswana, given its limited resources. However, following subsequent economic and political developments, including the desire for more independent management of domestic economic policies, the authorities in Botswana became increasingly of the view that the country’s continued participation in the RMA was no longer desirable. According to Hudson, when a country like South Africa has a very big balance of payment  deficit they rely on the inflow of capital to compensate for the deficit  and South Africa was so nervous that they might not get their annual dose of capital, hence the exchange controls.

Hudson was fortunately in the team which was tasked with the Currency Exchange. He was delegated the task of seeking whether Botswana economy was sufficiently strong that once it left the Rand monetary area and became our own currency there was not going to be any problems. Dr Hudson says to achieve this he sought reference from trade statistics he got from the Central Statistics Office to measure the amount the country was importing versus what she was exporting. “We were importing more than were exporting if you omitted diamonds exports but once you put in diamond export plus the foreign aid that was coming in from the National Development Plan I was sure that Botswana economy was strong enough that there was no need for the exchange controls,” he recalls.

Dr Hudson says they had to decide how they were going to value the Pula. There are different ways in which one can value a currency. In England, for example, people are buying and selling the Pound every 30 seconds and there are brokers who decide minute by minute what. If you have your currency in a huge foreign form in an economy where people are constantly trading it was feasible to let the market decide and no need for the Central Bank to get involved but in Botswana this was never going to be the case. “You could have 10 days in a year where you could get Debswana selling huge packets of diamonds and maybe get 10 to 20 million Dollars.  For 10 days in a year there would be a huge upward spike in the export proceeds and the other 355 there will be a slow trickle out of foreign exchange,” he says.

They had to think of a substitute, and there was a universal agreement between all the economists that the idea of having a flouting foreign exchange; where the market determined the rate second by second will not be applicable in Botswana so they had to think of the substitute. The traditional way to find a substitute, according to Dr Hudson, was for the Central Bank to intervene and say they are going to find the formula to value the Pula based on a mixture of five or six other currencies. “The Central Bank had to pick five or six currencies in small amount, add this small amounts in Dollars, add up all the Dollars and that would be the Dollar value of the Pula, and from there you could determine the value of the Pula against any other currency,” he says. Choosing the currencies to go into the basket was also a technical undertaking. According to Dr Hudson, the country had to determine how to choose these currencies and technically the optimum way of doing it one ought to choose the currencies of countries that you traded with. Similarly the basket had to be a representation of all the exports which was the easy part as Botswana’s exports were dominated by the Dollar; hence it had to reflect in the basket heavily.

Representing Botswana’s exports was simplified by the fact that the IMF did its own surveys regularly and thereafter published such information. Since 50 percent of the trade was done with South Africa, 50 percent was allocated to the Rand and the other 50 percent was allocated to the 50 percent to the Special Drawing Rights. According to Hudson, he presented the paper to the Bank of Botswana board and explained the logic behind the basket. They were impressed and presented it to the then Minister of Finance Sir Ketumile Masire  who then recommended that Dr Hudson present it to President Sir Seretse Khama who subsequently adopted it without any objection. In August, 1976, Botswana formally withdrew from the RMA and introduced its own currency, the Pula, which was pegged to the US dollar at P1 = US$ 1.15. This was the same rate at which the Rand was pegged to the US Dollar, yielding initial parity with the Rand.  A lot of effort, according to Dr Hudson, was also put into making sure that when the Pula was put into use people could surrender in all the old currency (South African Rand) which they had in their possession without much inconvenience. So planned was this operation that the transition was one of the most successful the world had ever seen. “We exchanged 95 percent of the Rands into Pula within a space of six weeks which the IMF told me remains a world record,” Dr Hudson recollects.