- Weaker currencies make the fight to curb inflation harder given the country’s dependence on imports.
- IMF estimates that a significant one percentage point increase in the rate of depreciation against the US dollar leads, on average, to an increase in inflation of 0.22 percentage points within the first year.
Most Sub-Saharan African currencies have weakened by an average eight per cent against the dollar since January 2022, fanning inflationary pressures across the continent as import prices surge, IMF now says.
In its latest monetary policy update , it says this is together with a slow growth that has left policymakers with difficult choices as they balance keeping inflation in check with a still-fragile recovery.
The lender attributes the depreciation to external factors such as lower risk appetite in global markets and interest rate hikes in the United States, that pushed investors away from the region.
“Foreign exchange earnings took a hit in many countries as demand for the region’s exports dropped because of the economic slowdown in major economies. At the same time, high oil and food prices, partly due to Russia’s war in Ukraine, pushed up import costs in 2022,” IMF says.
It adds that large budget deficits have since compounded the effects of these external shocks by increasing the demand for foreign exchange.
“About half of the countries in the region had deficits exceeding five per cent of Gross Domestic Product in 2022, putting pressure on their exchange rates,” it says.
The lender warns that with the unpredictability of the Fed Rates' future in coming days, its increase would mean further implication on the local currencies, prompting far reaching consequences on the general economy, specifically the cost of living.
Early last month, the The US central Bank raised its interest rates to the highest level in 16 years, as the Federal Reserve increased its key interest rate by 0.25 percentage points.
This was the tenth hike in 14 months, pushing its benchmark rate to between 5 and 5.25 per cent, up from near zero in March 2022.
Although the the Federal Reserve chair Jerome Powell hinted the rise may be its last one for now, he did not to rule out on specific further action, saying they will be driven by incoming data.
“We are getting close or maybe even there when it comes to pausing the rate-hike campaign, but we are prepared to do more if warranted,” Powell said in a press conference.
Fed Rate hikes have since seen the Kenyan Shilling weaken by about 18 per cent year-to-date, closing at 137.49 on Friday.
Year-on-year, since early 2020 when it started shedding its value, the shilling has weakened by about 38 per cent, further pushing up the cost of imports.
A weaker currency makes the fight to curb inflation harder given the country’s dependence on imports.
The lender estimates that a significant one percentage point increase in the rate of depreciation against the US dollar leads, on average, to an increase in inflation of 0.22 percentage points within the first year.
“There is also evidence that inflationary pressures do not come down quickly when local currencies strengthen against the US dollar,” the lender says in part.
Inflationary pressures have been rising in the country in recent past hitting a high of 9.2 per cent in February, before easing to 7.9 in April.
Weaker currencies also push up public debt.
About 40 per cent of public debt is external in sub-Saharan Africa and over 60 per cent of that debt is dollar denominated for most countries.
Since the beginning of the pandemic, weaker currencies have contributed to the region's rise in public debt by about 10 percentage points of GDP on average by end of 2022.
Many central banks in the region thus tried to prop up their currencies by supplying foreign exchange to importers from their reserves.
"However, with reserve buffers running low in many countries, there is little room to continue intervening in foreign exchange markets," IMF said.
In Kenya, reserves have dipped below the preferred at least four months of import cover, since last year.
They were at $6.3 billion (Sh865.8 billion) on Friday, which is 3.5 months of import cover.