The government-to-government deals on the importation of fuel products have increased the dollar reserves of banks, fuelled by a requirement that they accumulate hard currency to support payments under the scheme.
Kenya entered the deal with Saudi Aramco, Abu Dhabi National Oil Company, and Emirates National Oil Company in March 2023, designed to manage demand for dollars, switching from an open tender system in which local companies bid to import oil every month
According to the International Monetary Fund (IMF), the accumulation of dollars by banks under the deal has partly driven the piling up of forex deposits in the banking system.
“A large share of the increase in deposits in the banking system between March and September 2023 could be accounted for by escrow deposits under the G2G oil import scheme,” said the IMF in a recent report on Kenya.
The government-to-government scheme includes the issuance of letters of support by the government to domestic oil marketing companies that have also carried benefits for banks.
Fuel imported under the programme was backed by commercial letters of credit issued by domestic banks and confirmed by international banks, who then accumulated US dollars to meet payments to exporters under the deal.
Banks issuing letters of credit (LC), for instance, begin accumulating dollars three months after the bill of lading date that receipts the dispatch of fuel consignments by the exporter.
The accumulation of dollars continues until the 180th day, after which the exporter is paid directly by the international bank confirming the LC. The lender then seeks reimbursement from the domestic LC-issuing bank.
As a result, commercial banks involved in the deal have had to bolster their dollar holdings to meet payments under the government-to-government fuel deal.
The accumulation of the dollar holdings under the scheme is reflected by a turn in the banking institutions’ net foreign assets, defined by the Central Bank of Kenya (CBK) as the net worth of claims on the non-resident sector.
Data from the CBK shows the net foreign assets in banking institutions have soared from a deficit of Sh256.8 billion in November 2022 to a surplus of Sh272.9 billion in November last year, representing a 206.3 percent year-over-year growth.
The Treasury has widely expected the deal to address dollar liquidity challenges and exchange rate volatility caused by a shortage of the US currency at the time.
The assets first turned positive in March last year, aligning with the start of the government-to-government deal which was to run to the end of last year before its extension to December 2024.
“From a macro-economic perspective, the country is set to realize great benefits from an accumulation of foreign reserves as demand for foreign exchange from the oil sector eases, arising from deferred payments for petroleum,” the exchequer had said in September.
Further, the Planning Ministry expected ease to speculative tendencies in the foreign exchange market and exchange rate stability from a slow-down in currency depreciation.
The IMF nevertheless indicated that expectations for the depreciation of the shilling had remained prevalent amidst persistent forex shortages and market dysfunctions resulting in greater volatility as market participants including firms and households chased after dollars.
The picture has however begun turning in recent days after the CBK fronted support for the exchange rate indicating it had overshot its depreciation.
The local unit has marked 10 straight days of gains against the US dollar and was quoted at Sh156.7 at the close of trading on Tuesday by the CBK, representing a 0.1 percent gain against the greenback on a year-to-date basis.
