Kenya’s Central Bank Makes Surprise Rate Cut to Spur Economic Growth

Kenya’s Central Bank Makes Surprise Rate Cut to Spur Economic Growth

Kenya’s central bank implemented a larger-than-anticipated interest rate reduction, exceeding market expectations and signaling a commitment to bolstering economic activity amid subdued inflation. This marks the third consecutive rate cut, indicating a sustained effort to stimulate growth.

Rate Cut Exceeds Expectations, Signaling Pro-Growth Stance

The Monetary Policy Committee (MPC) lowered the benchmark interest rate to 11.25% from 12%, according to Governor Kamau Thugge. This bold move surpassed the 50 basis point cut predicted by economists surveyed by Bloomberg. The decision reflects the central bank’s confidence in the current inflation trajectory and its prioritization of economic expansion.

Low Inflation Creates Room for Monetary Easing

The MPC’s decision was underpinned by the expectation that inflation will remain within the lower bound of the central bank’s target range (2.5% to 7.5%) in the near term. Factors contributing to this outlook include low fuel inflation, stable food prices, and a steady exchange rate. November’s inflation figures, showing a slight uptick to 2.8% from 2.7% in October, remain comfortably within the target range.

Economic Growth and Exchange Rate Stability Remain Key Priorities

While stimulating economic activity, the central bank remains vigilant about maintaining exchange rate stability. Economic growth averaged 4.8% in the first half of the year, slightly lower than the 5.5% recorded in the same period last year. Projections for 2024 and 2025 stand at 5.1% and 5.5%, respectively.

Call for Commercial Banks to Align Lending Rates with Policy Changes

Governor Thugge urged commercial banks to reduce their lending rates in response to the central bank’s policy easing. He noted a disparity between the decline in short-term rates on government securities and the comparatively slower response from commercial banks. Lower lending rates are crucial to encourage private sector borrowing and fuel economic activity.

Kenya Follows Global Trend of Monetary Easing

Kenya joins a growing number of central banks globally, including South Africa and the European Central Bank, that have opted for monetary easing to counter the economic slowdown induced by high borrowing costs.

Strong Shilling Supports Inflation Moderation

The Kenyan shilling’s 21% appreciation against the US dollar this year has played a significant role in curbing inflation. This strengthening is attributed to factors such as the refinancing of Kenya’s June 2024 dollar eurobond, a tight monetary policy stance, and increasing foreign-exchange reserves.

Healthy Foreign Exchange Reserves Provide Buffer

Current foreign-exchange reserves of $8.97 billion, equivalent to 4.57 months of import cover, offer a substantial cushion against short-term external shocks. Anticipated budget financing from institutions like the World Bank and the International Monetary Fund, along with a forthcoming $1.5 billion loan from Abu Dhabi, are expected to further bolster these reserves.

External Debt Remains a Challenge

Despite the positive economic indicators, Kenya faces substantial external debt obligations. The country needs to raise $4.56 billion in the fiscal year ending June 2025 to service maturing foreign debt and interest payments, including a $300 million payment towards a 2027 eurobond. Additionally, a net borrowing of $2.7 billion from international markets will be required to address the projected 4.3% budget deficit.

Conclusion: Balancing Growth and Stability

The central bank’s decisive rate cut underscores its commitment to stimulating economic growth while navigating challenges such as managing external debt and ensuring exchange rate stability. The effectiveness of this policy move will hinge on commercial banks’ responsiveness in lowering lending rates and the continued stability of key macroeconomic factors.

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