Central Bank seen holding interest rates as inflation declines

Money Markets

Dr Patrick Ngugi Njoroge, the Central Bank of Kenya governor. PHOTO | DIANA NGILA 

By CHARLES MWANIKI, cmwaniki@ke.nationmedia.com

In Summary

• Economists say the policy meeting on Tuesday will serve to clarify which objective between inflation and exchange rate stability is paramount to the MPC at this point.

A decline in inflation last month and recent relative stability in the exchange rate could see the Central Bank of Kenya (CBK) leave the base lending rate unchanged on Tuesday.

August inflation fell to 5.84 per cent from 6.62 per cent in July, although concern remains due to the shilling’s weakening to the dollar in the period since the last meeting on August 5.

The shilling dipped on Monday to exchange at an average of 105.45 to the dollar having opened the day at 105.25. Dealers said this was partly due to the wide expectation of a CBK rate hold.

“The developments in inflation point to a hold or a cut,” said a commercial bank treasury officer who is not allowed to comment on the matter.

Economists say the policy meeting on Tuesday will serve to clarify which objective between inflation and exchange rate stability is paramount to the MPC at this point.

“Given that headline inflation declined last month, the MPC will probably leave the CBR unchanged as judging by their August statement they seem to be relegating currency stability as an objective, focusing squarely on inflation instead,” said CfC Stanbic economist Jibran Qureishi.

“However, the pass-through effects from the weaker exchange rate (of) increasing imported inflation should be a concern for CBK, although with the recent broad stability in the currency emanating from the rise in the Treasury bill and bond yields, the regulator may decide to keep rates on hold for now.”

Last week’s decision by the US Federal Reserve to hold the US interest rate stable for at least another one month will also buy central banks time before they are forced to raise rates.

READ: Moody’s says Fed rate raise poses threat to Kenya

In its last meeting, the MPC surprised the market by leaving the base rate unchanged at 11.5 per cent despite expectations among monetary analysts of a raise of between 75 and 150 basis points.

CBK governor Patrick Njoroge cited the fall in inflation in July and the reduced volatility in the currency market as two of the key reasons for the hold, adding that the economy needed to be allowed time to factor in the effects of the previous rate increases in May and June.

The shilling has, however, been more volatile since the last meeting, swinging from 100.85 on August 5 to 105.45 on Monday.

One of the concerns raised when CBK firmed its tightening policy with rate rises was that it would affect economic growth by raising the cost of credit for the private sector.

Genghis Capital analyst Vinita Kotedia said in an update for September that there is still room for further tightening if needed though, given that private sector credit growth remains unhindered at the prevailing rates.

Ms Kotedia however expects the shilling to remain under pressure from a worsening current account deficit and a globally strong dollar.

“Having reviewed the current market conditions, we portend shilling-dollar exchange rate to trade within the range of 105.40 to 107.50, as speculative trading and cyclical month end dollar demand may weigh down on the shilling in the coming weeks,” said Ms Kotedia.

The lack of Treasury bond maturities in October should, however, tighten liquidity, helping CBK control emerging volatility in the money markets.

Last week, the IMF signed off Kenya’s Sh65 billion ($610.7 million) cautionary loan facility, giving CBK more resources if needed to prop the shilling.