Shaky shilling rounds off the worst run in 30 years

 

The shilling is set to close 2023 on the worst run since 1993 after a year of turmoil in the foreign exchange market.

The local currency has shed over 26 percent of its value against the US dollar, having traded at Sh155.47 on Friday compared to Sh123.37 at the end of last year, according to Central Bank of Kenya (CBK) data.

This is the worst performance for the shilling since 1993 when the local currency shed a record greenback on the back of near hyper-inflation the previous year.

The depreciation has had the impact of increasing import costs, with the volume of orders from abroad decreasing as a consequence, while the cost of external debt service rose.

Moreover, a weaker Kenyan shilling has escalated imported inflation by driving up the cost of imported goods and services, including petroleum products.

Importers and merchant traders meanwhile struggled to access dollars from banks to meet orders.

The dollar scarcity hit its peak in March when some commercial banks who previously rationed dollars to customers began running out of hard currency while the dollar retail rate -- the rate at which dollars are sourced from banks by clients -- widened severely from interbank dollar rates.

Kenyans stepped up their accumulation of dollars in bank accounts while goods and services, including some rental properties, began attracting charges in foreign currency.

A majority of market analysts attributed the weakening of the shilling to dipping foreign currency reserves amidst rising external payments and reduced inflows of hard currency from external financing and foreign direct investments.

“In my opinion, the woes of the shilling are multifaceted, and it fundamentally comes down to discrepancies in supply and demand. The equilibrium is subject to various influences with sentiment and perceived risk particularly standing out. These factors are significantly shaped by a country’s ratings. Early this year, S&P revised Kenya’s outlook from stable to negative due to heightened risks associated with debt repayment, the impact of which has been starkly evident in the currency market,” Stellah Swakei, a senior research associate at Standard Investment Bank, told the Business Daily.

However, the Treasury and the Central Bank Kenya (CBK) have offered a counter-narrative to the shilling’s weakness, with both entities accusing the previous administration of having artificially held up the local currency despite significant shifts in the market dynamics.

As such, the authorities have sought to explain the weakness away as a mere reset of the local currency.

The CBK has nevertheless intervened in the forex exchange market to stem volatility and correct the widening spreads in the rates offered in the interbank and retail space.

These interventions have included the reopening of the foreign exchange interbank market -- the platform through which commercial banks trade foreign exchange among each other -- and the development of a forex code to guide the contact of market participants.

More recently, the Monetary Policy Committee of the Central Bank of Kenya (CBK) raised the benchmark interest rate from 10.5 to 12.5 percent, hoping to curb the effects of a depreciating shilling on consumer prices.

Read: Mass default fears as CBK loan rate hits 11-year high

“The Monetary Policy Committee (MPC) notes that exchange rate depreciation continues to exert pressure on domestic prices, thereby increasing the cost of living and reducing purchasing power. The MPC, therefore, concluded that there is a need to adjust the monetary policy stance to address the pressures on the exchange rate and mitigate second round effects, including from global prices,” the CBK said on December 5.

Analysts reckon that interventions made in the foreign exchange market must be backed by improvements in macroeconomic conditions, including fostering increased local production to reduce imports, raising exports, and stabilising debt levels.

“Addressing the root causes of volatility, rather than merely treating the symptoms, is imperative for achieving sustained stability in the exchange rate market,” said Ms Swakei.

Recent weeks have seen volatility in the exchange rate narrow while margins between forex interbank and retail rates have narrowed to near pre-crisis levels.

Dollar availability has meanwhile improved, with foreign exchange reserves, for instance, profiting from the tapping of concessional funding from multilateral lenders. Sources such as remittances have remained buoyant, offsetting constrained foreign direct investments.

“Our clients, who were among the first to experience shortages in 2023, have for the most part said that they are receiving dividends on time and able to repatriate both these and proceeds from sales without any issues. This is a subset of the economy, but it is an important signal to the rest of the world that US dollar availability has improved,” noted EFG Hermes Managing Director for Frontier Equity Sales and Head of Equities Kenya Muathi Kilonzo.