Kenya’s Central Bank Governor, Dr Kamau Thugge, has disclosed that the Kenya Shilling exchange rate against the US dollar and other hard currencies has been artificial and overvalued, exerting extreme pressure on the country’s forex reserves.
“For several years, the Kenyan economy has had an overvalued exchange rate. Some 5 or 6 years ago, the IMF and the World Bank argued that the Kenya Shilling exchange rate was overvalued by anything between 20.0% and 25.%. , “said Governor Dr Kamau Thugge. [The IMF actually put it at 17.5% in its 2018 Article IV Report]
This is the first admission by CBK that it cannot continue to defend the Kenya Shilling and may have at last let it on a free fall.
The previous CBK Governor Dr Patrick Njoroge maintained that the monetary authority had the muscle to defend the Shilling and even went ahead to accuse forex dealers of ‘speculative activities’ in the currency market.
“Kenya tried to maintain a “fairly artificially strong” exchange rate at the cost of loss of its foreign exchange reserves, leading to a dip in reserves from 5.5 to 3.7 months of cover, “said Dr Thugge.
In the first half of this year, CBK’s Foreign exchange reserves were depleted to 3.81 months of import cover which is below CBK’s statutory requirement of at least 4 months of import cover.
He added that the Kenya Shilling overvaluation became obvious in 2022 when major Central Banks in Europe and the US began tightening their monetary policy stance, leading to an outflow of capital from Kenya and other less developed economies.
When the forex markets closed this Tuesday, the Kenya Shilling had depreciated to exchange at Kshs. 150.0735 against the dollar, according to key CBK indicative exchange rates. It exchanged at KSh 182.5409 against the British Sterling pound and KSh 159.0944 against the Euro.
The exchange rate released by the Central Bank of Kenya is an indicative rate, meant to help those exchanging currencies gauge the value of the shilling on any given day.
Individual forex bureaus and commercial banks set their own rates, which are held to reasonable levels of variance and margins due to competition in the market. Typically, consumers looking to exchange smaller amounts find more favourable rates at forex bureaus, while those looking to exchange larger amounts through foreign accounts find better rates at commercial banks.
Experts attribute this slide in the Shilling exchange rate to a strengthening US dollar against emerging market currencies, the rise in global commodity prices leading to higher demand for dollars, and the reduction of dollar receipts from agricultural produce.
This is on the back of increased dollar outflows in debt servicing.
It is anticipated that the Kenya Shilling will continue on its losing streak against the US dollar having already depreciated beyond the 9.04% recorded in 2022. Available figures indicate that in the first half of this year, the Shilling depreciated by 13.94% against the US Dollar to close at KSh 140.52 compared to a 4.16% decline in the first half of 2022 when it closed at KSh 117.83 against the greenback.
The US dollar continued strengthening against Frontier currencies coupled with foreign-denominated debt repayment will further weaken Kenya’s forex reserves.
Additionally, dividend repatriation in Q3’23 in the equities market has further increased demand for the US dollar. The inflow of dollar investments through Foreign Direct Investments(FDIs), the NSE Market, and other capital inflows will be a key source of dollar supply helping the Kenya Shilling to sustain resistance.