Interbank market reforms boost Kenya dollar liquidity, says Absa

Absa Bank Kenya’s Director in charge of Global Markets, Stella Mambo, said that the CBK’s interventions in reforming the interbank market, starting mid-2023, have significantly aided in deepening liquidity in the market as well as boosting the flow of funds between parties.

The CBK on August 9, 2023, introduced an interbank interest rate corridor anchored on the benchmark rate as part of efforts to ensure borrowers benefited from cuts in its indicative lending rate.

“The other intervention, besides the corridor introduction, was in terms of the notional sizes that we used to trade. Previously, the minimum ticket size was north of $500,000. That got reduced to $250,000, and that allowed more participants into the interbank market, which created liquidity and flow of funds through the system,” Ms Mambo said.

Banks may borrow money from other banks in the inter-bank market to ensure that they have enough liquidity for their immediate needs, or lend money when they have excess cash on hand. The interbank lending system is short-term, typically overnight, and rarely more than a week.

A lower interbank lending rate means that banks have relatively lower costs in managing their liquidity and meeting regulatory requirements. The interbank lending rate also has an influence on the cost of borrowing for consumers, as it determines part of a lender’s funding expenses.

The CBK has implemented substantial reforms in the interbank market, primarily through a transition from the risk-based loan pricing model to the Kenya Shilling Overnight Interbank Average (Kesonia)—a benchmark rate that reflects the average interest rate at which banks lend and borrow unsecured overnight funds in local currency.

The new model uses the interbank rate as the common reference rate for determining lending rates to all customers. Banks are allowed to load a premium (K) on the reference rate, now referred to as Kesonia. The total lending rate is now calculated as Kesonia + Premium (“K”), where the premium reflects the borrower's risk profile, bank costs, and shareholder returns.

Ms Mambo further holds that a move by the CBK to create a window for shorter tenors for players scouting for local currency funding to come to market has also provided a major boost for liquidity in the foreign exchange market.

“The other intervention was around looking at scenarios where, if counterparties are coming to the market to borrow local currency funding, they had to sell dollars, and to support that, there had to be limits prescribed. What happened in that space is that non-residents were now allowed to come to market for tenors of even less than six months, whereas before it had to be for a year, and this has created flexibility and the market is quite efficient," she said.

The official said adoption of the Global Foreign Exchange Code in March 2023 is also said to have played a crucial role in the stabilisation of the foreign exchange market.

The Global Code is maintained by the Global Foreign Exchange Committee (GFXC) as a set of guidelines to ensure an efficient wholesale foreign exchange market.

The GFXC was established in May 2017 as a forum to bring together central banks and private sector participants to promote collaboration and communication on forex matters, and exchange views on trends and developments.

“Three years ago, there were two big challenges with the foreign exchange market. The first was price discovery, and the second was liquidity. The first intervention was the adoption of the Global Foreign Exchange Code in March 2023, of which Kenya was initially not part.

This helped in bringing market integrity and laying down standards on how foreign exchange transactions take place, especially around governance, risk management, and transparency," said Ms Mambo.

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