China woes pile pressure on Africa currencies

Kenya risks going the way of African countries whose currencies have come under pressure from reduced capital flows in the face of high budget deficits.

Countries dependent on commodity sales are the hardest hit by the fall in foreign exchange earnings as demand for commodities from China slows down.

“In the commodities based economies, China is a major market especially for gold, metals and oil. When there is a slowdown in the Chinese economy the exporting countries’ currencies suffer, especially for those with wide deficits and lower alternative foreign capital inflows,” said Commercial Bank of Africa senior dealer Joshua Anene.

A wide budget deficit and huge recurrent expenditure exposes Kenya to risks, with experts giving the example of Ghana’s cedi which has suffered from unsustainable government expenditure.

The cedi has been on a downward spiral against the dollar, resulting in administrative measures to limit dollar withdrawals, prohibition of offshore currency deals for Ghanaian companies and banning of dollar use in transactions.

Data from the African Alliance weekly performance chart of African markets shows many currencies are performing poorly to the dollar this year, especially in commodity-reliant economies.

Among the most weakened are the Zambian kwacha, which is down nine per cent to the dollar in 2014, the Ghana cedi, down seven per cent, the Nigerian naira and the Tanzania shilling at three per cent each.

The Kenya shilling has, however, remained stable against the dollar this year, exchanging at a narrow band of between 85.50 and 86.90.

The use of the dollar as the main reserve currency by African countries has also seen them suffer the effects of the US Federal Reserve decision to taper its stimulus programme, which has caused capital flight from emerging economies.

South Africa and Zambia have recently raised their base lending rate in a bid to stem the flight of capital. China is the world’s biggest consumer of metals such as copper and iron ore, and the slowdown in its demand has seen the worldwide prices for the commodities fall.

Lower foreign exchange reserves affect a country’s ability to absorb shocks in international trade. Kenya has, however, kept its foreign exchange reserves above the required four months import cover.

“Central Bank of Kenya increased its level of usable foreign exchange reserves from $6.165 billion (equivalent to 4.32 months of import cover) at the end of December 2013 to $6.258 billion (equivalent to 4.38 months of import cover) at the end of February 2014,” said the Monetary Policy Committee of the CBK in its March 4 briefing.

READ: Investor interest in Eurobond expected to weaken shilling

Countries that have high usage of the dollar or other hard currency as units of account, medium of exchange and store of value experience (dollarisation) have less ability to transmit policy through manipulating the domestic currency supply and demand.

Zimbabwe, for instance, has adopted a basket of foreign currencies in the most extreme such case in Africa, using the currencies of China, India, Japan and Australia as legal tender, alongside the dollar, rand, Botswana pula, British pound and the euro.

Dollarisation in Kenya stands at 10.8 per cent against Tanzania’s 20.3 per cent, Uganda’s 21.8 per cent and Rwanda’s 20 per cent, according to a report by International Monetary Fund released in September 2013.

The standard measure of dollarisation is foreign currency deposits as a proportion of money supply.

A successful Eurobond, however, is likely to bring pressure on the Kenya shilling, with the resultant reduced government appetite for borrowing likely to send interest rates down; reducing the yield appeal of the local currency lower.

“The IMF’s endorsement of the bond during managing director Christine Lagarde’s visit in January 2014 is likely to see the bond attract more investor interest,” said Stratlink Africa in its Kenyan markets update for March.