World Bank roots for weaker shilling to boost exports
A customer looks at rates at a forex bureau in Nairobi. Kenya can improve its balance of trade by weakening the shilling against major international currencies. FILE
What you need to know:
The World Bank says trade balance would improve by making Kenya’s exports cheaper in the international markets and imports relatively more expensive.
But analysts warn against a sudden fall in the value of the currency as happened in October 2011 when the local unit hit 107 units to the dollar.
Kenya can improve its balance of trade by weakening the shilling against major international currencies, the World Bank has asserted in a new report.
The report said the trade balance would improve by making Kenya’s exports cheaper in the international markets and imports relatively more expensive.
It is the second economic update report in as many months in which the World Bank is calling for a depreciation of the shilling to boost Kenya’s exports.
“A 10-per cent depreciation of the shilling will improve the trade balance by 4.6 per cent in domestic currency terms or 5.6 per cent in foreign currency terms,” said the World Bank in the report titled Kenya Economic Update: Time to Shift Gears.
The World Bank research estimates that a one percentage point fall in import prices results in more than a one percentage point increase in imported goods.
The report shows that by April this year, the Kenya shilling had appreciated by 37 per cent compared to the level 10 years ago — thereby encouraging faster growth of imports.
The study is based on the real effective exchange rate, which takes into account the impact of accumulated inflation over the past 10 years and is then weighted to the actual amount of trade conducted in various foreign currencies.
“Between January 2003 and April 2013, the Kenya shilling appreciated by 37 per cent in real terms, cumulatively representing an annual appreciation of about three per cent,” said the World Bank.
The study shows that some economic sectors would be more affected than others by the weakening of the exchange rate.
“A 10 per cent depreciation of the shilling would lead to 28.2 per cent reduction in rubber and hinds, 24 per cent in footwear and headgear, 20 per cent in precision instruments. However, capital goods, chemicals and vehicles and transport would fall less than proportionately,” said the report.
The sudden depreciation contributed to spiralling inflation that hit a peak of about 20 per cent in November 2011, the highest level since October 2008.
“We need to let the Kenya Shilling depreciate gradually, not suddenly as happened in 2011. The fundamentals do not support a strong shilling. When you look at the current account, you find that at over 10 per cent, it is very high,” said Peter Wachira, senior investment manager at PineBridge Investments East Africa, in an earlier interview.
In nominal terms, the exchange rate has depreciated in the past 10 years, but the picture changes when higher inflation in Kenya is factored in relative to the prices among its trading partners in the past ten years.
“The persistently higher inflation vis-à-vis its trading partners, points to an appreciation in the real exchange rate, that is, erosion in Kenya’s competitiveness,” said the report released on Monday.
An economist with inside knowledge of the workings of government said that a gradual devaluation would help the economy, but was not sure whether policy makers would have the courage to take up such a policy given its likely short-term implications.
The economist said the benefits to exports from the weak shilling and the reduction in the unnecessary imports would more than compensate for the higher external loan repayments and higher oil prices that would come from the depreciated exchange rate.
“One of the important functions of the exchange rate is to correct trade imbalances. Other countries have devalued their currencies for the purposes of raising exports and curbing imports. We can also correct our trade imbalance by devaluing,” said the economist.
