Kenya Surprises by Hiking Key Rate to Almost 12-Year High

David Herbling
·3 min read

(Bloomberg) -- The Central Bank of Kenya surprised financial markets by raising borrowing costs to their highest level since 2012 as risks to inflation remain elevated and to support the shilling. Bonds fell.

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The monetary policy committee lifted its benchmark rate to 13% from 12.5%, Governor Kamau Thugge said Tuesday in an emailed statement. Of the eight economists in a Bloomberg survey, only two expected a hike. The raise, the third since Thugge became governor in June, is the seventh in the current tightening cycle that started in May 2022 and brings the total combined increases to 600 basis points.

Kenya’s 10-year eurobond due 2032 extended its losses after the decision was announced, with the yield increasing by 1 basis point to 10.54% by 6:30 p.m. in Nairobi, according to Bloomberg pricing.

“The risks to inflation remain elevated in the near term, reflecting the impact of second-round effects of the rise in fuel inflation, and pass-through effects of exchange-rate depreciation,” Thugge said. The central bank also acted as “overall inflation has remained sticky in the upper bound of the target range,” the governor said.

Exchange Rate Pressure

Thugge in December vowed to take all necessary steps to get inflation to cool to the 5% midpoint of the bank’s target range. It has been above that level since November 2020, in part due to a sharp depreciation in the currency. The shilling strengthened 0.3% against the dollar by close of trading in Nairobi, paring its losses since the beginning of last year to almost 25%.

“The MPC noted the continued, albeit reduced, pressures on the exchange rate and therefore concluded that further action was needed to stabilize prices,” Thugge said. “The proposed action will ensure that inflationary expectations remain anchored, while setting inflation on a firm downward path towards the 5% midpoint of the target range, as well as addressing residual pressures on the exchange rate,” he said.

The International Monetary Fund also expects inflation to inch up in the first half of this year, driven primarily by global oil price volatility and exchange rate pass-through, according to its sixth review of Kenya’s program with the lender.

“The CBK’s caution against inflation pressures will continue to be tested over the coming months,” David Omojomolo, Africa economist at Capital Economics, wrote in a note to clients. “With the headline rate likely to move further away, the 5% midpoint of the inflation target, we wouldn’t be surprised if the CBK delivers one final 50 basis-point hike in this tightening cycle to 13.5% at the next meeting in April,” he said.

Key Insights:

  • Foreign-exchange reserves stood at $7.1 billion, equivalent to 3.8 months of import cover, “providing adequate cover and a buffer against any short-term shocks in the foreign exchange market,” Thugge said.

  • Growth in private-sector credit increased to 13.9% in December, compared with 13.2% a month earlier.

  • The asset quality of banks continued to improve as the volume of non-performing loans declined to 14.8% in December from 15.3% in October.

  • The current-account deficit is projected to widen to 4% of gross domestic product this year, compared with 3.9% of GDP estimated in 2023.

--With assistance from Simbarashe Gumbo.

(Updates with central bank comments from fourth paragraph)

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