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Headache for CBK as economy takes a beating

Saturday February 09 2013
juakali

Workers in the informal sector. Analysts warn that the cost of living and lending rates could begin to surge. Photo/Phoebe Okall

Kenya’s economy could take a turn for the worse in the coming months with fresh data showing inflation could rise and the currency hit new lows, presenting a headache to the country’s monetary policymakers.

Already, the shilling is trading at new lows of Ksh88 to the dollar, interest rates and inflation are rising, at least for the past month, making it difficult for the Central Bank of Kenya to ease lending.

Projections by investment advisers Genghis Capital and Renaissance Capital, as well as Morgan Stanley, the US investment bank, paint a gloomy picture as jitters over next month’s election, the country’s weak external position, surging public debt and budget deficit conspire to put pressure on the economy.

The analysts warn that the cost of living and lending rates could begin to surge, reversing a policy stance of lowering the Central Bank Rate (CBR) that the CBK had taken for the better part of 2012.

Already, data from CBK says the country’s overall inflation increased for the first time in 13 months, rising from 3.2 per cent in December 2012 to 3.7 per cent in January.

Genghis Capital projects the inflation rate will edge upwards to seven per cent by the end of the year.

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Analysts at the three investment banks reckon the shilling will lose further ground against major currencies on increased imports and falling investments and exports, both occasioned by the coming General Election.

ALSO READ: Election jitters to slow down Kenya’s growth - World Bank

“We expect the shilling to weaken from Ksh86 to Ksh91 against the dollar at the end of the year owing to a slowdown in tourism… and a drop in forex reserves, which we project will fall from a 4.2 months’ to 3-4 months’ cover at the end of 2013,” said analysts at Renaissance capital.

Morgan Stanley and Genghis see the Kenyan currency exchanging at Ksh88 and Ksh89 to the dollar by the end of the year.

The gloomy picture could not have come at a worse time for business executives who are making their spending and strategic plans for the year.

They could be forced to reconsider their strategies in the remaining part of the year, especially on concerns over the impact of the General Election.

READ: Industry leaders cautiously upbeat with all eyes on Kenya

“Everybody is concerned about the elections. If we have a negative outcome, there will be an impact on the shilling and also on the exchange rates,” said Bharat Thakar, managing director at Scangroup, a Nairobi Securities Exchange-listed media company.

Election fears

“I think at the moment, interest rates having come down has been a positive outcome on one side but there is still a concern on the other side with people holding back because of the elections,” he added.

Jonathan Ciano, the CEO of Uchumi Supermarkets, also sees the election playing a crucial role in determining the direction that the economy takes.

“Interest rates are expected to hold… but there are concerns over the election, especially how politicians are approaching the land question,” said Mr Ciano.

While the CBK has been optimistic about the economic prospects in the coming months, in January, it warned of dark clouds hanging around the economy.

“The main risks to macroeconomic stability are the uncertainty over the full resolution of the Eurozone problems and balance of payments pressures attributed to the high current account deficit. Nevertheless, the monetary policy measures in place were considered adequate to ensure effective liquidity management and maintain stability in the interbank market in the coming months,” Central Bank Governor Njuguna Ndung’u said.

The increased imports amid falling exports are expected to push the current account deficit — currently at 40 per cent of GDP —further and by extension impact on the local currency, as more people in the country convert their shillings into dollars than dollars are converted into shillings.

Analyst at Morgan Stanley also see the country’s fiscal deficit — total revenues minus total expenditure — rising to 6.5 per cent as against the government target of 4.5 per cent, on increased government spending amid falling revenues.

“Government expenditure has overshot the official target thanks to an increased wage bill and the cost of implementing the new Constitution. As revenues have faced a downward risk due to the weak economy, it’s not surprising that the fiscal deficits are higher than official targets,” said Morgan Stanley.

As of last December, the Kenyan taxman had collected Ksh380 billion ($4.3 billion), which was Ksh34 billion ($390 million) short of its target for the first six months of the year and less than 50 per cent of the Ksh881.2 billion ($10.12 billion) that the taxman was hoping to net this year.

READ: Tax shortfalls, high expenditure

This has put pressure on the government, which is currently running a deficit of Ksh130 billion ($1.5 billion) or about 10 per cent of the Ksh1.2 trillion ($13.9) billion budget — forcing it to turn to the debt market for funding.

Last week, the Treasury announced it was raising the country’s debt ceiling, allowing it to borrow an extra Ksh31.6 billion ($363 million).

The government had planned to borrow Ksh105.6 billion ($1.2 billion) from the local market, but by November 2012 (five months into the current fiscal year), the government had already borrowed Ksh88 billion ($1 billion).

This increased local borrowing is likely to exert upward pressure on Treasury yields and by extension push interest rates upwards, which would go contrary to the current monetary policy geared at lowering commercial lending rates.

The total public debt currently stands at 46.1 per cent of the country’s GDP, which is slightly above the IMF recommended ratio of below 45 per cent.

Given the current public debt to GDP ratio, any further borrowing is likely to dampen the attractiveness of the country’s $500 million Eurobond, planned to be issued in the second half of the current calendar year.

“It would be in the interest of the new administration to lower the budget deficit, as it will help lower borrowing and contain public debt, which is necessary if the new administration plans to pursue a Eurobond issuance,” said Renaissance capital.

By Peterson Thiong’o and Emmanuel Were

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