The Second Yemeni Economic Conference
Sana'a  18 - 20 April, 1998

Abstract 28

The Republic of Yemen, since its inception, adopted a multiple exchange rate system. During the period 1990-94, up to five exchange rates prevailed in the economy with considerable differences among them. This system led to price distortions over and above the already negative impact of the administered price policy and the subsidies to basic goods and services. Altogether and overall, those factors had an inevitable detrimental effect on resource allocation, and on the financial performance of the economy in particular.

The various exchange rates were used for different economic objectives. The official exchange rate was restricted to evaluating financial transactions either within government agencies, or with the banks. In a later stage, however, it was restricted further to official transactions between the Central Bank on one side and the Government and the outside world, on the other.

A customs accounting exchange rate was adopted for the sole purpose of evaluating all imports except those of subsidized basic goods. Also, a diplomatic exchange rate was agreed upon to determine payments and salaries to Yemeni diplomatic missions abroad. Finally, while another special (incentive) exchange rate was allocated to foreign currency transactions undertaken by oil companies, foreign diplomatic missions in Yemen, and international organizations, a subsidized exchange rate was granted for wheat and flour imports due to their strategic importance.

The parallel exchange rate, which is determined upon the interaction between supply and demand, depreciated rapidly during 1990-95. In June 1995 the value of the Yemeni Rial vis-a-vis other major foreign currencies reached 1:8 of its 1990 value, representing an all time low of YR160 per dollar compared to only YR18 per dollar in December 1990. This drop resulted from severe disturbances and speculation that ruled the parallel exchange market during the period.

However, the Economic Reform Program relied in its early stages on several financial and monetary measures and policies that aimed at economic stabilization. Further objectives were to regain confidence in the domestic currency, to curb inflation, and to reduce budget deficit. Hence, the Central Bank decided to abolish the multiple exchange rate system and to resort to a unified and floating exchange rate based on the supply and demand mechanism. To reach the goals, the Central Bank adopted a two stage approach. Liberalizing exchange rates for commercial banks’ transactions, and then gradually moving the official exchange rate towards the parallel market rate, which was fully achieved on July 15^th 1996.