Economic Concerns Mount as Shilling Depreciates Post-Interest Rate Hike

Despite the Central Bank of Kenya (CBK) raising interest rates to combat the weakening local currency, the Kenyan shilling has depreciated at a faster pace than expected.

Following the implementation of more stringent monetary measures on December 5th, the devaluation of the Kenyan shilling in relation to the US dollar has surged to an average of 0.16% per day. This represents a notable escalation compared to the previous average daily fluctuation of 0.069%. The swift decline of the shilling has prompted concerns about the effectiveness of implementing stricter monetary policies to address struggling foreign currency markets. As a result, there is now speculation about the possibility of a further increase in interest rates, which may be discussed at the upcoming policy-setting meeting of the CBK scheduled for next month.

Ever since the substantial rise in rates, the Kenya Shilling has experienced a decline in value against the US dollar. On Friday, it was valued at Sh158.3, a decline from Sh153.28 on December 5. Analysts believe that the impact of the rate increase may have been limited due to its late implementation during the depreciation stage of the currency. Some point out that the increase in interest rates had already been priced in the market.

In a surprising move, the Central Bank of Kenya (CBK) recently increased the Central Bank Rate by two per cent, raising it from 10.5 per cent to 12.5 per cent. The CBK Monetary Policy Committee-MPC defended this choice by highlighting the ongoing strain on domestic prices caused by the currency rate's decline. To demonstrate this, the CBK clarified that the depreciation of the currency rate contributed to about three percentage points of the uptick in consumer prices, with November's inflation rate standing at 6.8 per cent.

Additionally, the CBK highlighted the increase in foreign debt service as a counterbalance to the government's intended fiscal contraction. Dr Kamau Thugge, the governor of the CBK, acknowledged that the shilling had depreciated more than intended after the foreign exchange market was adjusted in response to what the apex bank believed was an overvaluation of the local currency.

“We thought the shilling had been overvalued for quite some time; there have since been significant adjustments, and we now feel that the shilling has depreciated enough and actually may have overshot the rate required for equilibrium,” Dr Thugge said on December 6.