Rising economic tide is not purely political

The Nairobi Securities Exchange: The NSE 20 -Share index gained 24.5 per cent in a year while the All Share Index gained 29.8 per cent. FILE 

By Samora Kariuki

In Summary

• Equity markets around the world have registered growth in the past year.

Over the past year or so, the Nairobi Securities Exchange (NSE) has witnessed one of the strongest upsurges in share prices and turnover. The NSE 20-Share index has gained 24.5 per cent in a year while the All Share Index has gained 29.8 per cent.

This improvement in fortunes has been driven largely by increased foreign participation in the banking, retail, energy and manufacturing sectors with key blue chip stocks such as East African Breweries Limited , KCB, Equity and Safaricom as key beneficiaries.

The rhetoric from commentators has linked this performance to the recent improvement in the political climate, particularly after the successful elections last month.

A closer inspection of this rhetoric is important given the fact that the NSE index has stalled over the past two weeks despite a successful Supreme Court procedure and the inauguration of a new president.

Indeed, this “political environment” rhetoric almost collapses when one considers the fact that a number of serious political banana peels including the infamous letter sent to the Chief Justice occurred over the course of the year.

This line of thinking is consistent with what the famous Nobel Laureate Daniel Kahneman refers to as a ‘heuristics’ bias, human beings are prone to fall for simple narratives or analytical procedures given a deluge of information.

The political explanation for the stock market and improved economic performance is one of them.

Kahneman argues that “any aspect of life to which attention is directed will loom large in global evaluation”. To this end, an analysis of the Kenyan stock market should be done within a global evaluation. Once this is done, the political argument becomes even more suspect.

A look at the global scenario reveals that equity markets around the world have enjoyed an upswing during the same period. The Nigerian All Share Index has gained 20.6 per cent over the year, and the Indian stock market has risen 6.4 per cent whilst the S&P 500 and the FTSE-100 have gained 16.1 per cent and 12.7 per cent respectively.

Even the French stock market has done well despite the lingering concerns over the country’s economy. Therefore, the Kenyan stock market is arguably being driven by global phenomena particularly as foreign investors have featured strongly in the recent surge. It can be argued that this global phenomenon is quantitative easing, or more precisely the expansion of western central bank balance sheets.

As of the 2nd week of April, the fed balance sheet stood at $3.2 trillion whilst the ECB balance sheet as of February 2013 stood at 2.7 trillion Euros.




Unlike the US, the ECB has been shrinking its balance sheet as banks repay the loans taken out for liquidity.

In Japan, the Bank of Japan’s new governor Haruhiko Kuroda announced a drastic policy of pumping $350 billion of liquidity per year through bond purchases with a view to ending the country’s 20-year deflationary spiral.

The surge of Central Bank- induced liquidity has washed over global equity markets raising the prospects of a collapse down the line. This is particularly relevant as economic performance does not seem to warrant double digit improvements in stock prices.

It is, however, worth mentioning that the fundamentals in Kenya are strong; the banking sector is resilient, growth is forecast to range between five and six per cent in the next couple of years and regional integration should give local companies a strong boost.

Nonetheless, the increased global liquidity is a real threat not only to the stock market, but also to the economy. Commodity volatility is expected with the current global monetary environment.

We have recently seen gold losing ground as investors price in improved economic performance; the same line of reasoning would mean that down the line oil prices should rise. This would thus feed back into the economy and stock prices.

The take out from all of this is that investors should tread with care as the global economy is in uncharted territories; never in recent economic past has the world witnessed such aggressive central bank policies.

Most informed analysts can only hazard a guess as to what will happen. Typically, expanding Central Bank balance sheets have fed directly into inflation. But with the benefits of globalisation, consumer price inflation in the developed and arguably developing world has been kept at bay.

In its place, asset price inflation in the form of increasing equity prices, skyrocketing property prices in places such as New York, London and Singapore as well as an upsurge in the price of art collections has become the norm.

Dealing with asset price inflation is horrendously difficult from a central banking perspective. This is because it requires the Central Bank to know the fair valuation of each financial asset in the economy or at least a generalised basket of assets.

Curtailing asset price inflation would then mean that the Central Bank can cap your wealth. This of course would be met with fervent opposition.

The outcome is that we continue pushing along in the expectation of a form of asset price collapse down the line as the expansionary policies begin to unwind. This is exactly what the term “kicking the can down the road” refers to.

The writer is a research analyst at NIC Securities.