The Malawi government has loosened its grip on the kwacha allowing it to freely float against major international currencies, the Reserve Bank of Malawi has announced.
This has had the effect of devaluing the local currency against the dollar by 50 per cent.
The removal of the kwacha peg was in response to International Monetary Fund recommendations in a bid to rescue the country from an economic crisis that has led to shortages of fuel, forex and basic commodities.
In a statement, central bank governor Charles Chuka said the Reserve Bank of Malawi has effective May 7, 2012 devalued the exchange rate against the US dollar from 168 kwacha to 250 kwacha.
"At K250 per dollar the exchange rate is well adjusted as the black market is certainly under-devalued. Following this devaluation, the kwacha is now fully liberalised," said Mr Chuka.
The Malawi kwacha was selling at between 270 and 300 kwacha to the dollar on the black market.
Run-ins with former President Bingu wa Mutharika had seen major donors and lenders cut aid to the southern African nation.
The IMF had advised Malawi to float the currency in effort to save the ailing economy but Mr Mutharika vowed not to do so arguing that this would hurt poor Malawians.
However new President Joyce Banda recently announced that Malawi is going to adhere to recommendations by the IMF, including devaluing the kwacha.
The IMF has set some conditions including devaluation of Malawi’s currency and liberalisation of the country's foreign exchange rates if it is to revive talks with Malawi on the Extended Credit Facility (ECF) programme.
"The Bank has taken steps that should improve the availability of foreign exchange in the market by transferring United States dollars earned at the tobacco auction floors to the commercial banks," added the statement.
"Furthermore, the Bank has also allowed tourists to settle their local bills in any convertible foreign currency or in Malawi kwacha by selling foreign exchange in the market".
The central bank said devaluation of the kwacha is expected to have the effect of reducing demand for imports of consumer goods in favour of domestically produced goods.
"Most importantly, it should also, together with the liberalisation of foreign exchange market, contribute to government’s efforts to reach early agreement with the IMF which should leading to unlocking donor flows in the next few months,” reads the statement.
IMF’s resident representative in Malawi Ruby Randall, recently said that Lilongwe would also be expected to introduce other corrective economic measures should the ECF programme be revived.
Ms Randall said Malawi would require maintaining strong revenue performance and cutting low priority expenditures, while at the same time preserving social spending and targeting assistance to the poor and needy through special programmes.
In exchange IMF offered to continue with subsidy on the Farm Input Subsidy Programme, cash transfer schemes and possible subsidising of paraffin as some of the social safety measures government could implement to protect poor people from possible negative effects of the austerity measures.