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Experts explain the recent strengthening of the Kenya shilling and a history of currencies that collapsed after suddenly strengthening

Analysis: What's Behind the Recent Kenyan Shilling (KES) Rally?

The unexpected recovery of the Kenyan Shilling (KES) against the dollar has left many wondering about the factors behind this turnaround. The million shilling question is; what has caused this surprising and sudden turn of events?

The KES's Sudden Surge

The KES has seen a robust resurgence in the recent trading sessions, sparking optimism about potential recovery after years of depreciation. From the start of 2020 to the start of 2024, the shilling lost almost 40% of its value against the dollar. However, the currency has made a significant comeback in recent days and weeks, strengthening by about 15% against the dollar.

The Covid-19 Impact

The onset of the Covid-19 pandemic in March 2020 led to a rapid depreciation of the KES against the dollar and other major currencies. This was primarily due to investors seeking the safety of assets such as the dollar over higher-risk emerging market currencies like the shilling.

The US Interest Rate Hike

The United States' quick move to hike interest rates after inflation surpassed 9% also impacted the KES. This led investors to take advantage of the elevated yields in dollar markets, which resulted in a rotation out of emerging market currencies.

The Role of Eurobond Sale

The KES's rally was significantly bolstered by a successful Eurobond sale. This $1.5 billion Eurobond issuance saw strong demand from both foreign and domestic investors.

Impact on Forex Markets

This development was crucial for foreign exchange markets. Traders and the World Bank had previously feared that Kenya might default on a debt repayment of $2 billion in June. However, the successful entry into international debt markets made this scenario unlikely, removing a major risk factor.

Inflows Supporting the Shilling

The Kenyan government also received almost $2 billion in demand for a shilling-denominated bond worth $500 million, indicating potential capital inflows that could support the shilling's value. These two factors improved sentiment in Kenyan forex markets, suggesting the currency could find more technical support.

Sustainability of KES Gains

The key question that traders now face is whether these gains can be sustained or whether this is a short-term bounce on the back of capital market optimism.

Governmental Economic Policies

Although traders are relieved that Kenya is likely to avoid defaulting, there are still concerns surrounding some of the government's economic policies. For instance, President William Ruto remains committed to expensive policies such as the "Hustler Fund," which offers hundreds of millions of dollars a year in cheap credit to Kenyan consumers. This forces the government to spend and borrow even more, pressurizing public funds.

The UDA/Kenya Kwanza government has also rapidly gained the negative reputation of being a very wasteful spending regime.

Tax Revenue Limitations

The government's limited ability to collect tax revenues also puts extra pressure on public funds. These factors will continue to concern foreign exchange traders despite the positive news of the Eurobond sale.

The Implication of a Stronger Shilling

A stronger shilling would benefit the Kenyan economy given the country's reliance on many dollar-priced essential goods, which have become increasingly expensive during the shilling's depreciation. However, whether the shilling can continue to strengthen and relieve these macro pressures will depend on how the government manages the situation in the upcoming months.

Skepticism Over the Shilling's Recovery

Despite the shilling's strong rally, some experts are skeptical about whether the trend will hold, especially after the Eurobond matures in June 2024.

Temporary or Sustainable?

The strengthening of the shilling is only beneficial if it is sustainable. Stability is the desired outcome for traders and ordinary people alike. For exporters, however, a strengthening shilling could have adverse effects.

Foreign Support

Kenya has recently benefited from dollar support from global lenders such as the International Monetary Fund and the Trade Development Bank. Economists believe this has had an impact on the strengthening shilling.

Effect on the Economy

A weak shilling is detrimental to Kenya's economy, given that it is an import-driven economy. Hence, a stronger shilling is a boost for the economy and a significant boost for incomes, although it might hurt exporters.

Expert Opinions

Experts attribute the strengthening of the shilling to the reduced risk of Eurobond default following the successful issuance of a new bond. However, they also highlight the fact that the increased demand for dollars due to expectations of the shilling strengthening has played a role in driving the shilling.

Return to True Value

Experts believe the shilling will return to its true value once the demand for dollars returns, with people needing to trade. They believe the true value of the shilling is somewhere between where it was and where it is now.

Impact on Subsidiaries

The rally of the KES also had an impact on the profitability of regional subsidiaries of Kenyan companies. For instance, NCBA's Tanzanian subsidiary returned to profitability due to significant business growth, cost-cutting measures, and significant recoveries from provisions and write-offs undertaken in 2022.

Future of KES

While the KES's rally has sparked optimism, it's crucial to remember that currency markets are inherently volatile and unpredictable. The future performance of the KES will depend on a range of factors, including global economic conditions, domestic economic policy decisions, and investor sentiment, among others.

While the recent strengthening of the Kenyan Shilling is certainly a positive development, it's crucial to interpret this trend with a degree of caution. The sustainability of these gains remains uncertain, especially given the lingering concerns over some of the government's economic policies and the looming Eurobond maturity in June 2024.

Key Takeaways

The strengthening of the shilling is beneficial to Kenya's import-driven economy but can adversely affect exporters.

Experts believe the shilling will return to its true value once the demand for dollars returns.

Analyzing the History of Crashed Currencies: Currencies that behaved like the Kenyan shilling and suddenly strengthened before crashing

History is a valuable tool in helping anybody to predict what is bound to happen in the future. Understanding the history of crashed currencies is also critical facet of economic analysis. It enables experts, policymakers, and even laypeople to comprehend the complex dynamics that govern global finance.

Currency crashes, also known as currency collapses, are devastating occurrences that can cripple entire nations. They usually occur when people lose faith in a nation's currency, leading to rapid and uncontrolled inflation or hyperinflation. This often results in dire socio-economic consequences such as widespread poverty, political instability, and social unrest.

Understanding Currency Crashes

What Triggers a Currency Crash?

A currency crash is usually triggered by a combination of economic, political, and social factors. These may include poor fiscal policies, political instability, economic mismanagement, excessive borrowing, and external shocks such as wars or natural disasters. When these factors converge, they can undermine confidence in a country's currency, leading to a crash.

The Implications of a Currency Crash

The implications of a currency crash are far-reaching. It can lead to hyperinflation, where the cost of goods and services skyrockets, rendering the local currency virtually worthless. This can cause severe economic hardship, leading to social unrest and political upheaval. Moreover, a currency crash can also trigger a debt crisis, as the country's ability to service its external debt diminishes.

The Role of Government and Monetary Authorities

The government and monetary authorities play a crucial role in preventing, managing, and recovering from currency crashes. Through sound fiscal and monetary policies, they can help maintain the stability and integrity of the national currency. However, when these institutions fail to uphold their responsibilities, they can exacerbate the problem, leading to a full-blown currency crash.

Historical Examples of Currency Crashes

The Imperial Chinese Paper Money Debacle

The first known instance of a currency crash occurred during the Song Dynasty in China, under the reign of the Imperial Chinese dynasty. Despite the initial success of the jiaozi, the first widespread paper money, mismanagement and overprinting led to inflation and eventual rejection of the currency.

John Law’s Misadventure in France

In the early 18th century, a Scotsman named John Law introduced the first paper money to France. Despite initial success, the unchecked printing of money led to a collapse in the value of the currency, culminating in a nationwide economic crisis.

The Weimar Republic Hyperinflation

Perhaps the most infamous instance of hyperinflation occurred in Weimar Germany post-World War I. To meet its war reparations obligations, the German government printed excessive amounts of money, leading to hyperinflation that devastated the country's economy.

The Zimbabwean Hyperinflation Crisis

In the late 20th and early 21st centuries, Zimbabwe experienced one of the worst episodes of hyperinflation in history. Misguided land reforms, corruption, and unsustainable fiscal policies led to a collapse in the value of the Zimbabwean dollar, resulting in widespread poverty and economic hardship.

The Venezuelan Currency Crisis

In recent years, Venezuela has been grappling with a severe currency crisis. A combination of overreliance on oil revenues, economic mismanagement, and political instability has led to hyperinflation, rendering the Venezuelan Bolivar virtually worthless.

Lessons from Currency Crashes

One critical lesson from these historical events is the inherent risk of fiat currency. Unlike hard money such as gold or silver, fiat currency has no intrinsic value and is prone to overprinting, which can lead to inflation or hyperinflation.

The Importance of Sound Fiscal and Monetary Policies

Sound fiscal and monetary policies are crucial in maintaining the stability and integrity of a country's currency. Governments and monetary authorities must exercise prudence and restraint in managing the money supply to prevent currency crashes.

The Role of Public Confidence

Public confidence plays a critical role in the stability of a currency. Once the public loses faith in a currency, it can trigger a vicious cycle of currency devaluation, inflation, and economic hardship.

Conclusion

The history of crashed currencies offers invaluable lessons for policymakers, economists, and the public. By understanding the dynamics that lead to currency crashes, we can better anticipate what could possibly come that we may not want to even think about.

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