Opinion and Analysis
A lady sells cereals at Nyeri market on April 13, 2015. In addition to
the expected rise in the cost of living (inflation), a weaker currency
has a wider impact on the economy, especially on interest rates. PHOTOS |
FILE
By GEORGE BODO
The rate of depreciation of the Kenya shilling against the US dollar this year has been unusually fast-paced.
Since the year began, the shilling has depreciated by 4.1
per cent, almost equalling the 4.8 per cent cumulative depreciation in
2014.
For a small open economy like Kenya’s, this trend
is worrying because these massive depreciations in the currency end up
increasing the cost of living and the cost of doing business.
For instance, today the exchange rate is a
significant component of the pricing of petroleum products and
utilities, which are eventually transmitted into the pricing of basic
commodities.
The current depreciative trend of the shilling
against the dollar has resulted in several explanations being offered
from official and non-official sources.
Some of the major explanations for the current depreciation of the shilling include:
1: Continued weakening in the foreign exchange
earning capacity of Kenya’s economy, whereby export earnings are
increasingly financing a declining proportion of imports, hence leading
to a widening current account deficit (in fact, 2014 saw exports finance
the lowest proportion of imports since independence).
2: Externalities, especially the recent
strengthening of the US dollar globally as a result of the improving
domestic absorption rate in the US economy, a net factor of quantitative
easing (famously referred to as QE); and 3: seasonalities in demand for
foreign exchange.
Apart from the structural issues, CBK’s
interventions have often saved the shilling from further depreciation,
which has been very commendable through addressing market volatility.
However, it seems these stop-gap measures haven’t
yielded the desired results over the past couple of weeks (and April has
now been the worst month for the shilling this year, after depreciating
by two per cent against the US dollar.
But this doesn’t, in anyway, imply that CBK has run
out of ammunition, which is why I believe the following ammunition
could help augment the current sale of forex to market intermediaries
and other open market operations in stemming further adverse
depreciation.
First, any private sector import bill should be
settled through margin (credit) accounts, which should be operated for a
period not exceeding 60 days. Second, foreign currency-denominated
loans should only be granted strictly to foreign exchange earners.
Third, collection and repatriation of export
proceeds should be streamlined, to the extent that retention accounts,
if there is any, should only hold as minimal proceeds as possible.
Fourth, to reduce any speculative components of the
market, the tenor of foreign currency swaps involving Kenya shillings
for non-resident counter parties should be increased to a minimum of 18
months, from the current 12 months.
Fifth, and still in a bid to curb further
speculative activities, there is a need for a temporary “kill switch”
where commercial bank dealers should halt trading whenever the shilling
depreciates by more than one per cent intra-day in the interbank market
Finally, commercial banks’ net open positions should be narrowed to five per cent of core capital, from the current 10 per cent.
Since the last review in October 2011, banks have grown
their core capital positions by 70 per cent, and are now having wide
open positions in nominal terms.
These measures are temporary and should ideally be
operated for the remainder of the year, subject to monthly reviews. The
country cannot afford to have the exchange rate hitting levels of 100
again, as it did between September and October 2011.
Additionally, as it is, the current exchange rate
levels are worsening the country’s balance of payments position since
exports have failed to increase proportionately.
Mr Bodo is an investment analyst.
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