Central banks in East Africa have resorted to direct market interventions to stop their currencies from weakening further against the bullish dollar.
This is after the open market stance of mopping up excess liquidity yielded little results and instead led to the shrinking of foreign reserves and weakening of currencies.
Last week, Kenya became the second country in the region, after Uganda, to raise its base lending rate — the Central Bank Rate (CBR) — to save its shilling. The central bank’s Monetary Policy Committee raised the CBR by 150 basis points from 8.50 per cent to 10 per cent in a bid to tighten liquidity in the market. This was the first revision in almost two years.
In April, Uganda raised its CBR from 11 per cent to 12 per cent, in a bid to shore up its depreciating shilling, which has lost 10 per cent to the dollar since the beginning of 2015.
Rwanda has for the past 12 months retained its CBR at 6.5 per cent, while Tanzania has instead raised its statutory minimum reserve ratio for commercial banks to 10 per cent, from 8 per cent, as part of efforts to check the currency volatility.
Kenya’s central bank Deputy Governor Harun Sirima said the emerging aggregate demand pressures and the persistent volatility in the global foreign exchange markets plus the projected recovery in international oil prices have implications for inflationary expectations.
“We, therefore, have decided to augment our tightening stance by raising the CBR rate,” said Dr Sirima.
At the close of trading on Tuesday, when the announcement was made, the Kenyan shilling was stronger at 97.15/25 compared with the previous day’s 97.80/90.
Kenya’s average lending rates are now expected to go up after next month’s MPC meeting, which will see a review of the Kenya Bankers Reference Rate (KBRR), which last changed in January to 8.54 per cent. The average rates have been stable at 15.4 per cent over the past 12 months, having dropped from 16.91 per cent in July 2014.
“We are definitely going to see a rise in the lending rates because of the increase in the CBR. The KBRR will also rise, as this is the tightening stance the central bank is taking to stem the shilling’s volatility,” said George Bodo, head of EcoBank Capital.
The tightening has been evident in money markets where the interbank rate has risen by more than five percentage points to about 13 per cent since February.
Razia Khan, the head of research on Africa at Standard Chartered, said that in the near term, the Kenya shilling will appreciate modestly due to the rate hike but a still-wide current account deficit suggests that a full reversal of the shilling’s depreciation is unlikely.
“By raising the CBR by 1.5 percentage points, the MPC has underscored its anti-inflation credentials and the shilling has benefited as a result,” Ms Khan said.
On the flip side, Kenya has seen a marginal drop in inflation from 7.08 per cent in April to 6.78 per cent in May.
Uganda’s balance of payments deficit is a source of weakness for the economy as reflected in the pressures on the exchange rate since the beginning of the year. The Bank of Uganda (BoU) said that in the third quarter of 2014, the current account deficit rose to $817.4 million, up from $551.8 million in the second quarter.
BoU Governor Emmanuel Tumusiime-Mutebile said: “The forecasts showed volatilities and a high likelihood of increases in core inflation in the medium term. We hope that this raise will help strengthen the shilling against the dollar.”
Despite the rise in its CBR, inflation figures for May show an increase to 4.9 per cent, up from 3.6 per cent in April. By the end of May, the Ugandan shilling had shed 6.94 per cent against the dollar.
Chris Mukiza, director of macroeconomic statistics at the Uganda Bureau of Statistics, linked the rise in inflation to the depreciation of the Uganda shilling against the dollar.
“We expect this to continue through to the second half of the year,” said Dr Mukiza.
The rise in CBR in Uganda has also seen an increase in the lending rate from 21 per cent to an average of 23 per cent.
Rwanda’s MPC will be meeting later this month, but little is expected of the revision of the CBR. This is because the Rwandan franc has gained by more than 1 per cent in the past few weeks against the dollar, while inflation has been maintained at below 5 per cent.
In its last meeting in March, Rwanda’s central bank — National Bank of Rwanda — held its key repo rate at 6.5 per cent, with Governor John Rwangombwa saying that inflation was not expected to exceed 3.5 per cent by the end of 2015.
BNR cut its key lending rate from 7.5 per cent in 2013 to 7 per cent in the first half of last year, and later to the current 6.5 per cent in June 2014. This was the last time the change was done. The current weighted average lending rate for commercial banks is 17.81 per cent.
Bank of Tanzania Governor Benno Ndulu said the fall in the exchange rate is likely to put upward pressure on inflation.
“The Bank of Tanzania has decided to revise the statutory minimum reserve ratio rate charged on private deposit liabilities with banks and the general public from 8 per cent to 10 per cent,” said Prof Ndulu.
Tanzania’s inflation edged up for the fourth straight month to 5.3 per cent from 4.5 per cent recorded in April, and 4.3 per cent in March, partly attributed to its weak shilling. The shilling closed in at 2,105 to the dollar by end of May. By the end of last week, it was at 2,190.