Nearly every world currency depreciated against the Dollar, not just Kenya. FILE PHOTO | NMG
Since the beginning of 2017, many commentators lament the steady decline in the Kenyan shilling’s value against the US dollar.
Let
us rationally examine what makes currencies ebb and flow against each
other on global markets and investigate root causes behind the
Shilling’s condition. Obviously, currency prices represent the amount
that buyers and sellers agree on in order to make the exchange. But
what causes a currency more or less demand on given days? Investors
hold two major reasons to demand a currency.
Investors
weigh risks versus returns. Therefore, first, investors choose a
currency that they feel minimises their risk and avoid potential
downfalls in value. Inasmuch, the Burundian Franc proves an unpopular
choice due to immense perceived risk in the nation. Investors do not
want to lose their funds. Notice the inverse relationship between the
Chinese Yuan and Bitcoin.
When Chinese equities
markets, Renminbi currency, or economic fundamentals falter, then
Bitcoin values shoot through the roof as Chinese investors look to
protect their money from risk. Then when indicators in China improve,
Bitcoin values drop dramatically again as investors view Chinese
investments as less risky.
In another example, the
United States suffered from a highly valued Dollar in the months and
years that followed the global economic crash of 2008 because investors
wanted a safe haven for their money and stored their funds in American
treasury bills and bank accounts in mass numbers. Their demand for
safety pushed up the value of the Dollar as global citizens clamoured
for security all the while many other currencies crashed from the
Balkans to Central Asia to Southeast Asia. Some currencies, like the
Tajikistan Somoni, dropped in value by 30 per cent against the dollar
since those currencies where not perceived as safe and secure as the
American Dollar.
Second, speculators place their funds
in the country they can earn the best return with acceptable risk. When
a nation’s central bank raises the rate at which banks can borrow from
the central bank, this has impact throughout the financial sector. The
effect typically results in higher rates paid on deposits and therefore
greater rates demanded on domestic competitor products like treasury
bills and corporate bonds.
If a Botswanan treasury bill
paid an effective return of 5 per cent per annum while its Namibian
counterpart provided 6 per cent and investors viewed both nations as
equal riskiness, clearly, Namibia with its higher returns would beckon
money from around the world more than Botswana. Since in order to
purchase Namibian treasury bills one must also purchase the Namibian
Dollar, we would expect the Namibian Dollar to raise in value against
the Botswanan Pula as less people demand the Pula.
Other asset class appreciation attractive to investors
also impacts the demand in a currency. Strong growth in securities
exchange returns in a country also causes investor money to flood into
the nation and push up the currency values.
Armed with
the above two main conditions for currency fluctuations, let us examine
the Kenyan Shilling. First, we examine the safety risk issue. Yes,
Kenya’s general elections will take place in only four more months.
Logically, one could expect investors worried about instability to flee
Kenyan markets and invest elsewhere in the region or in safe haven
currencies like the American Dollar or Swiss Franc. However, in the
past five months, our Kenyan Shilling stayed fairly constant with the
Tanzanian Shilling, Euro, and Swiss Franc. In regards to the Ugandan
Shilling, we actually appreciated. Inasmuch, investors do not feel
threatened by the upcoming general election and do not see undue
uncertainty and risk enough to repatriate funds out of Kenya.
Next,
we look into the issue of better returns at home or abroad. Since the
Kenyan Shilling remained constant or even appreciated against comparable
currencies and many major currencies, let us look specifically at the
US Dollar against world currencies to see if the cause lies in America
or elsewhere.
The Kenyan Shilling’s slight decline
against the greenback commenced in November 2016. Nearly every world
currency depreciated against the Dollar, not just Kenya. Other nations
experienced sharper declines against the US Dollar than us. Uganda’s
currency slide began in October 2016 and devalued more in total.
Tanzania actually strengthened until January when it quickly devalued by
April more than our Kenyan Shilling. The intensely controlled
Ethiopian Birr devalued even with the Shilling. The Euro followed a
very similar closing price trend chart against the US Dollar as the
Shilling since the end of October 2016.
The Ghanaian
Cedi decreased at double the rate of the Shilling and the Japanese Yen
performed notably worse than the Shilling. Among major currencies, only
the Swiss Franc and the British Pound performed markedly better than
the Shilling against the US Dollar. South Africa’s Rand surprisingly
appreciated against the Dollar during the past five months despite
President Zuma’s erratic behaviour, eroding support, and sacking of his
well respected finance minister.
So the devaluation
of the Shilling is the result of events in America, not at home. The
aftermath of the US Presidential election in November 2016 led American
equity markets to garnish record gains as investors expected President
Trump to cut regulations, at the expense of consumers, so that companies
can make more money during his term.
Scott may be reached on scott@ScottProfessor.com or on Twitter: @ScottProfessor
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