Are CBK measures to curb inflation succeeding?

The Public Watchdog resumes today after a short break, to confront a multivariate of questions on the raging yet salient debate on the consequences of a weakening Kenya shilling, rising inflation and skyrocketing interest rates.

Amidst this precarious macro-economic environment is an increasingly volatile international financial system contagion with all its destabilising effects.

It is the imported contagion effects that have had a sustained disruption on the domestic macro-economic stability and the failure of the monetary authority to implement timely and appropriate intervention tools.

It is pertinent at this stage to state that inflation is enemy number one that every monetary authority must put under check and quickly before there is erosion on the purchasing power of money.

But what is inflation and why is it always the focus of monetary authorities?

We do not wish to delve into deep economics, but instead wish to bring relevant issues to the fore in the current debate with respect to appropriateness of Kenya’s monetary policy orientation.

Indeed, it is clear that the absolute and sustained general rise in prices of goods and services in the economy constitutes what is characterised as inflation.

Paradoxical as it might sound, a relative rise in prices of goods and services on the basis of demand and supply factors does not constitute inflation.

The speed and sequencing of inflation containment tools makes a difference in the success of curbing inflation.

What, then, are the current factors that must be confronted by both the Treasury and the Central Bank of Kenya?

Firstly, the effects of an accelerated depreciation of the Kenya shilling against major international and regional currencies is causing inflation that is obvious and pervasive across all sectors of the economy. This is compounded by the fact that Kenya remains a net import economy.

Fuel constitutes a major component of Kenya’s imports and which has a multiplier effect in causing a general rise in prices of goods and services. Thus, the impact of fuel costs in the production process on an array of products and services leads to a general rise and sustained inflationary pressure in the economy.

Why is this so? A depreciation in the currency leads to loss of purchasing value.

Such a sustained weakening would lead to a loss of confidence in the currency as well as demand for more wages, thereby fuelling the very cycle of inflation.

It is for this reason that every monetary authority must promptly deal with early signs of inflation with appropriate monetary policy intervention tool and supported as necessary by fiscal policy actions.

The external environment has not been helpful to our domestic situation due to sustained debt crisis in the Euro zone countries, exacerbated by Greece’s mounting debt at over 170 per cent of its Gross Domestic Product (GDP). Italy, Spain and Portugal are also under scrutiny.

Secondly, the fundamental question begs: is the worst behind us as an economy?

The answer is no. Because the international financial and economic system is undergoing a sustained period of volatility that is roiling the financial markets.

What, then, does it portend to countries like Kenya? What policy intervention measures can be pursued to stem further worsening of the situation?

Because the worst may possibly not be behind us, the Treasury and the Central Bank of Kenya’s Monetary Policy Committee must engage in a proactive consultative rethink beyond reliance on the advice of the International Monetary Fund (IMF).

The reason is that domestic dynamics and the state of the financial markets makes some of the IMF’s prescription unworkable and possibly damaging to the stability and growth of the Kenyan economy.

Thirdly, sustained skyrocketing of interest rates undermines economic growth and is disruptive across the productive sectors.

How? Banks will soon witness sustained rise in default of loan repayments due to consequences of businesses and households being unable to absorb rising costs of production and finance costs.

This will give rise to higher provision levels for bad and doubtful debts across the banking systems. A reversal for current profitability will begin and banks will stop lending to the productive sectors of the economy, thereby becoming risk averse.

Treasury bills

We will also begin to see banks shifting their investments to secure assets such as short-term Government paper — the Treasury bills.

The productivity in the economy will suffer and as interest rates continue to rise, the private sector’s profitability will decline due to sustained rise in the costs of production and the multiplier impact of a declining currency.

Government revenues will decline necessitating more borrowings and further push interest rates higher, leading to crowding-out effects of the private sector.

Finally, a time has come for a clear transparency in the monetary policy formulation, with open public hearings and appropriate parliamentary oversight by the designated House team.

The operations of the Central Bank as well must become a subject of regular review by the committee to ensure pursuit of appropriate monetary policy with insights from the financial markets and industry players.

The call therefore is for the parliamentary committee to now protect the public, as this is a matter of compelling public interes

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