Shilling defies CBK liquidity mop-up to drop against dollar

The shilling has defied a multi-billion liquidity mop-up and occasional direct dollar sale by the Central Bank of Kenya (CBK) to continue a declining trend picked last year.

Dealers expect the weakening trend to persist, with the currency currently at its lowest level to the dollar since November 2011.

In afternoon trading Monday, the shilling had weakened to 91.20/30 to the dollar compared to Friday’s closing average of 91.15.

Some market players said the market may be growing resistance to the support mechanisms employed to boost the shilling, especially with the knowledge that CBK does not intervene to determine the direction of the exchange rate but rather to control volatility.

CBK sold an unspecified amount of dollars in the market on Thursday last week as the shilling breached the 91 level.

Such a move has, however, been faulted by some dealers who say it has been adding to the volatility by giving the shilling an artificial short-term boost.

“CBK’s interventions are sometimes not in sync with what is happening in the market in terms of demand and supply,” said a senior dealer at a commercial bank who wished to remain anonymous to comment freely.

“When they come in we see more volatility because the sale of dollars momentarily pushes the exchange rate down, only for it to rise again sharply thereafter because investors know the regulator will not sustain the dollar injections.”

He said during the sale of dollars in the market last Thursday, the shilling had only depreciated only 10 cents, in spite of strong demand from the telecoms and energy sectors.

READ: Shilling weakens slightly, CBK to mop up Sh10b

The Central Bank has been intervening in the market with direct dollar sales at key psychological levels since the shilling breached the 88 level to the dollar in August last year. Uganda shilling has followed the same trend.

As some of the contributing factors to the depreciation such as a globally strengthening dollar and weakened inflows persist, the effect of the interventions has tended to largely wear off.

The regulator has been more consistent with its liquidity withdrawals mainly through repos, having withdrawn Sh32.4 billion in the past one week.

Liquidity has been rising in the past two weeks on account of end month government payments, net redemption of government securities and maturity of term auction deposits, meaning the mop-up activity is expected to increase in the coming weeks.

The release of Sh10 billion in value added tax refunds by the Treasury starting this week will also serve to increase the liquidity in the market, cranking up pressure on the shilling.

As a result of high liquidity, the average interbank rate has decreased to 6.59 per cent by the end of last week, from 7.56 per cent recorded in the previous week.

According to Commercial Bank of Africa dealer Joshua Anene, the increasing strength of the dollar in the international market points to a fundamentally weakening shilling in the near term, with CBK intervention serving mainly to avert panic in the market.

“Direct intervention made against underlying fundamentals that point towards a weakening shilling may not be effective unless combined with other tools, such as a raise in the Central Bank rate which would signify a tightening monetary policy and promise higher yields for shilling denominated assets,” said Mr Anene.

In its January 2015 market update, research firm Stratlink Africa says that CBK is expected to continue its intervention in the market over the next three months, although support for the shilling should also be coming from diaspora remittances.

“Through 2014, diaspora remittances remained resilient despite anaemic economic recovery in the US, persisting challenges in the eurozone and Japan, and general slowdown in emerging markets such as China, Brazil and Russia. If this resilience is replicated in quarter one 2015, it will give impetus to the strengthening of the shilling,” said Stratlink.