May 22, 2020

The Monetary Policy Committee (MPC) is set to meet on Wednesday, 27th May 2020, to review the outcome of its previous policy decisions and recent economic developments, and to make a decision on the direction of the Central Bank Rate (CBR). In their previous meeting held on 29th April 2020, the committee decided to reconvene within a month for an early assessment of the impact of these measures and the evolution of the COVID-19 pandemic. In the last sitting, the MPC lowered the CBR by 25 bps to 7.00% from 7.25% citing that the accommodative policy stance adopted in March 2020 was having the intended effects on the economy. They however noted that the Coronavirus pandemic had continued to affect economic growth and as such, there was need to further cushion the economy against the effects of the pandemic. This was in line with our expectations as per our MPC Note with our view having being informed by:

1. The threat of Cost-push inflation emanating from the expectations of a second wave of locust invasion as per experts recommendation which was expected to greatly affect the agricultural sector, causing a further increase in food prices as well as supply side constraints due to effects of the COVID-19 pandemic. We noted that inflation would be mitigated by the decline in oil prices across the globe due to a decline in demand and as such, the transport index, which has a new weighting of 9.7% in the total consumer price index (CPI), would decline due to the decrease in petrol and diesel prices, and,
2. The instability of the Kenyan Shilling which had already lost by 5.6% YTD in April 2020 reflecting a less stable economic environment due to high dollar demand from foreigners exiting the market as they directed their funds to safer havens as well as merchandise, and energy sector importers beefing up their hard currency positions amid a slowdown in foreign dollar currency inflows from diaspora remittances and fewer offshore investors to meet dollar demand,

Following the revision of the balance of payments data over the past five years, the current account deficits for 2018 and 2019 were revised to 5.8% of GDP, from the previously recorded deficits of 5.0% and 4.3% of GDP in 2018 and 2019 respectively.  The Monetary Policy Committee also noted that the current account deficit was projected to remain at 5.8% of GDP in 2020 (a rate equal to the revised figure of 5.8% recorded in 2018 and 2019), supported by lower oil imports that would offset the projected reduction in remittances. However, receipts from the tourism and horticulture sectors are set to decline due to the lockdown measures put in place by Kenya’s trade partners in the wake of the Coronavirus pandemic.

Below, we analyze the trends of the macro-economic indicators since the April 2020 MPC meeting, and how they are likely to affect the MPC decision on the direction of the CBR:

Conclusion

Of the six factors that we track, three are neutral and three are negative, with no changes between April 2020 and May 2020. Central Banks around the world have been moving to cut the Central Bank Rate in a bid to boost the economy amid the economic uncertainty brought about by the Coronavirus. This has seen the Central Bank of Kenya cut its country’s growth prospects to 2.3% from their earlier projections of 3.4% and 6.2% projected in March 2020 and January 2020 respectively. 

The main goal of the monetary policy is to maintain price stability and support economic growth by controlling money supply in the economy.  We expect the MPC to maintain the Central Bank Rate (CBR) at 7.00%, with their decision mainly being supported by:

1. Despite the increased liquidity in the money markets mainly attributable to the lowering of the Cash Reserve Ratio (CRR) to 4.25%, from 5.25% in the March 2020 meeting, inflation rates have remained stable and within the government’s target range of 2.5% - 7.5%, a trend witnessed by many economies globally as business and social activities come to a near standstill due to the Coronavirus pandemic. This has seen demand for goods decline as governments impose strict lockdown measures to control the spread of the virus. Given that one of the main goals of monetary policy is to ensure price stability, we believe that the stable inflation rate will not exert pressure on the MPC to implement inflationary control,
2. We foresee the MPC taking a wait and see approach as it observes the effects of the 25 bps rate cut seen in the April 2020 sitting. Despite the need for economic stimulus in the wake of the Coronavirus that has adversely effected the economic growth, we believe that additional policy rate cuts might be ineffective and may not translate to increased private sector credit growth or lower lending rates, on account of the bank’s credit pricing models during this period of economic uncertainties, with the expectations of increased levels of Non-performing loans. As such, we believe the MPC will maintain the CBR rate at 7.00% as they continue monitoring the economy, and,
3. By further implementing an accommodative policy stance, domestic investment activities will decline as Kenya’s financial and capital assets become less appealing to investors on account of their lower real rate of return. Consequently, the shilling will continue to depreciate as the demand for the dollar increases. On this front however, Kenya recently received a Kshs 78.7 bn Rapid Credit Facility (RCF) from the IMF which is expected to boost Kenya’s dwindling forex reserves. This will provide additional buffer to the Kenya shilling from foreign exchange shocks in the short term. As such, this has reduced pressure on the Central Bank to pursue additional policy measures.

Disclaimer: The views expressed in this publication are those of the writers where particulars are not warranted. This publication, which is in compliance with Section 2 of the Capital Markets Authority Act Cap 485A, is meant for general information only and is not a warranty, representation, advice, or solicitation of any nature. Readers are advised in all circumstances to seek the advice of a registered investment advisor.