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Kenya's central bank lowered its benchmark interest rate only weeks after a controversial limit on commercial banks' interest rates was scrapped, saying inflation expectations remain well anchored, the economy is operating below its potential level, and the continuing tightening of fiscal policy has made room for an accommodative monetary policy to support economic activity.


The Central Bank of Kenya (CBK) cut its Central Bank Rate (CBR) by 50 basis points to 8.50 percent and has now cut it by 300 basis points since it embarked on an easing cycle in May 2016.


But since July 2018 the monetary easing has been paused against a backdrop of an impaired transmission of CBK's monetary policy after the government imposed a cap on commercial banks' interest rates in September 2016, arguing lenders were not passing on the falling interest rates to borrowers.

But the rate cap, which was opposed by the International Monetary Fund (IMF) and found to have stifled lending growth and reduced the effectiveness of monetary policy, was annulled by the Nairobi High Court in March and scrapped earlier this month after Kenya's parliament approved President Uhuru Kenyatta's proposal.


CBK said its monetary policy committee "welcomed" the repeal of the interest rate cap, adding this had led to "a significant rationing of credit, particularly to the most vulnerable," and removing it should "restore the clarity of monetary policy decisions and strengthen the transmission of monetary policy."


In September CBK Governor Patrick Njoroge said there was scope to loosen its policy if the government sustains its efforts to reduce the budget deficit and earlier this month he then told Reuters the lifting of the cap on banks' lending rates had removed one of the concerns the bank had about cutting interest rates.


The finance ministry has targeted a fiscal deficit in the current fiscal year of July 2019 - June 2020 year of 5.9 percent, down from 7.6 percent in 2018/19.


After rising to almost 12 percent in May 2017, Kenya's inflation rate has decelerated and remains within the central bank's target range of 5.0 percent, plus/minus 2.50 percentage points.


In October inflation rose to 4.95 percent from 3.83 percent, mainly due to temporary rise in maize grain and sifted flour while non-food inflation remains below 5 percent, "indicative of muted demand pressures and limited spillover effects of the excise tax indexation in July," CBK said.


It added another adjustment in excise taxes in November are expected to have only a marginal impact on inflation, which is expected to remain within the target range in the near term.


Kenya's shilling, which has been more stable in recent years after plunging in 2015, fell in the first part of the year but since early October it has bounced back.


Following the rate cut, the shilling dropped 0.45 percent to trade at 102.06 to the U.S. dollar, up 1.7 percent since October 1 but marginally down since the start of this year.


"The foreign exchange market has remained stable, supported by the narrowing current account deficit and increased portfolio and other investment inflows," CBK said, adding the current account deficit had narrowed to 4.1 percent of gross domestic product in the 12 months to September from 5.1 percent in September 2018 and is expected to narrow to 4.3 percent of GDP in 2019 from 5.0 percent in 2018.


Despite a hit to agricultural production in the first half of the year from a delayed onset and below average rain fall, CBK said the economy was resilient and GDP grew 5.6 percent in the first half and leading indicators suggest stronger growth in the second half, helped by growth in private sector credit to micro, small and medium-sized enterprises due to the deployment of innovative credit products and the repeal of the interest rate caps.

 

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