Analysts see CBK raising policy rate as inflation rises

Market watchers say Central Bank of Kenya (CBK) could early next week still tighten the monetary stance even as the new Eurobond proceeds were expected to work in favour of a lower interest rate regime.

Some argue that rising inflation and potential depreciation of the shilling exchange rate could prompt raising the policy or CBK base rate, a politically incorrect move given recent pronouncements on low interest rates by the executive.

But others said the Eurobond would inject new foreign currency into markets and stabilise the country, giving reason to maintain the same rate.

The Monetary Policy Committee (MPC), which sets the Central Bank Rate (CBR), has maintained the rate at 8.5 per cent since April last year even as some sections of the financial markets called for more easing to encourage credit growth.

David Cowan, head of research on Africa at Citigroup Global Markets, said in a new report that even though the CBK has a bias for loosening to push economic growth, there was a likelihood of the rate heading upwards.

Dr Cowan said the economic growth outlook was weak, thereby necessitating caution towards tightening, but noted that the monetary authority must have learnt some lessons from the exchange rate crisis in 2011/2012.

Growth in 2013 was 4.7 per cent despite forecast of 5.5 per cent. First quarter 2014 growth stood at 4.1 per cent but the Treasury expects 5.8 per cent growth in the full year.

“Is growth weak enough to push them into cutting rates further any time soon? Or have they learnt the lessons of the 2011/2012 inflation surge that over-easing monetary policy can cause major problems? At the moment the answer to both questions seems to be yes,” said Dr Cowan.

READ: Inflation rise to 7-month high signals interest rates hike

The Citigroup economist said looking at trends in credit growth and interest rates pointed against easing the monetary policy stance, but there was also caution needed given that the other trends were unclear.

“In addition, it is also useful to look at the growth of private sector credit and interest rates, both of which are important in understanding the CBK thinking process. One points against easing monetary policy, while the other trend is less clear,” he said.

Alexander Muiruri, head of fixed-income market at Nairobi-based investment advisory and brokerage firm Kestrel Capital, said that he did not expect tightening of the stance given the $2 billion (Sh175 billion) Eurobond cash had been raised and there was no political goodwill for high lending rates.

“We expect them to keep the CBR rate unchanged. Given the success of the recent Eurobond and the proposal to introduce the Kenya Bankers Reference Rate this month I don’t think they have any political goodwill to start raising lending rates,” said Mr Muiruri.

The fixed-income specialist said he expected interest rates to remain unchanged over the next three months and thus expect no rapid depreciation in the shilling.

Razia Khan, head of research at StanChart Plc, said in a recent analysis that the pressure on the shilling was high even after factoring the proceeds from the Eurobond, a development that necessitated a tightening stance.

She pointed out that limited inflows and rising inflation pushed by factors such as food and high international oil prices strengthened the case for a tight monetary policy stance this month.

“With food prices currently showing pressure of a magnitude not seen since 2011, the authorities will have to exercise vigilance to avoid any secondary price pressures. We forecast the beginning of a new tightening cycle in July,” said Ms Khan.

She said there was broad tendency for the local currency to weaken due to a persistently huge difference in the value of imports versus that of exports.

“Kenya’s current account deficit is more of a structural factor. It explains why, broadly, we should expect the Kenyan shilling to weaken over time,” said Ms Khan.