With the parlous state of the shilling, all-round austerity is clearly required

Tuesday October 11 2011



The financial markets are in a state of panic. The instability of the shilling has nothing to do with some conspiracy theory. It has nothing to do with pre-election machinations of the moneyed segments of the political elite. What we are seeing is more or less a run on the shilling.

Until the other day, the unanimous view among CEOs of commercial banks and within Nairobi’s financial literati was that a major increase in interest rates would stabilise the shilling.

Last week, the Monetary Policy Committee responded by giving them a massive 400 basic points increase on the Central Bank Rate. The shilling has not stabilised.

On Tuesday, the currency plunged to its lowest level so far. The decision by the Monetary Policy Committee did not perform the magic.

In hindsight, we should have known that tinkering with interest rates was not going to take us far.

At the beginning of the year, the rate on government paper was around four per cent. Before last week’s 400 basic points increase, the interest rate on the Treasury bill had risen to around 13 per cent.

The truth is that interest rates have already moved up significantly since January — long before last week’s intervention by the Monetary Committee. It did not stem the volatility of the shilling.

I have a question for the big banks. Now that the Central Bank has acceded to your demands, what contribution do you want to make towards stabilising the currency?

Evidently, the banks are not playing their part in restoring stability in the market place.

On Tuesday, the shilling traded to the dollar at a rate of 107 per unit. Yet when you scrutinise the trends, the picture you get is that although the bids for the dollar varied wildly, the volumes traded were very low.

We have a very thin market right now. This is the opportune time for banks to co-operate on a common approach for stabilising the currency.

Since we are all agreed that the speed at which the shilling has slid has nothing to do with fundamentals, the banks are in the best position to craft a solution for stability in the market.

After all, the major players in this marketplace are fewer than eight.

If instability persists, it will not take long before we start seeing agitation for the return of foreign exchange controls.

In the medium term, calm and confidence will only return the moment the markets realise that we have enough dollars in the economy.

The most urgent thing right now is for the government to immediately engage the International Monetary Fund for a facility to stabilise the currency.

There was a time when being on an IMF programme was a very big deal. It sent the signal to the rest of the world that a country was on the right path towards liberalising its economy — that you were rolling back the frontiers of the State, decontrolling prices and liberalising your exchange rate.

With globalisation and with the liberal agenda becoming the norm everywhere, being on an IMF programme is no longer a big deal.

President Kibaki’s administration ran the economy without an IMF programme until the other day. We got roped in because we wanted access loan guarantees for energy sector projects from multilateral institutions.

These days, being on an IMF programme sends the signal that you are sick. The point here is this. We may not like what the IMF stands for, but in the circumstances, we cannot avoid the bitter pill. The darkest shadow looming over the national economy is that of national indebtedness.

This year’s annual budget was written on the assumption that inflation will be kept at 5 per cent. The rate has climbed to 17 per cent. The budget assumed that we would borrow from the domestic market at single digit interest rates. The Treasury Bill rate is in double digits.

We are still faced with major new expenditures relating to the implementation of the new Constitution. We will have to pay salaries to extra MPs, Senators and Governors, and build new county assemblies. We will be spending billions on the elections.

Clearly, we have entered a period of belt-tightening. The time for some form of austerity is now.