Let Engineers Engineer

Posted by Samora in Wednesday, February 15, 2012

I have been awaken from my deep blogging slumber by an extraordinary statement. In my course of regular reading, I came across the Report by the Parliamentary Select Committee investigating the collapse of the Kenyan Shilling. The basis for their eventual tirade on the banking community as well as the Central Bank Governor is summarised in the following statement;

The Committee received a range of the causes of the fall of the Kenyan Shilling which the committee divides into economic, human and institutional failures. The economic causes such as the wide current account deficit, Euro crisis, large import bill of non-essential commodities, the Arab Spring, are still in place even after the shilling recovered its value in Decemeber 2011. The Committee therefore zeroed on institutional and human failures.

This statement is quite shocking. Let me explain. The currency fell to a low of KShs 107.00 to the dollar in mid October 2011. The key driver was simple, investors stopped believing in the fundamentals that underlie the Kenyan Shilling and quickly began to bet against it. I might confess that I suggested to my former boss that we should bet against the shilling. Nonetheless, these opinions on the shilling were not just based on current fundamentals but also, by forward looking fundamentals. Consider for instance an investor who wants to build a bread factory, his analysis will not only include current demand patterns, but primarily, his analysis will include forward looking demand patterns.

A good investor is one who knows where money is to be made, not where it is being made. 

My point is simple, in December, forward looking projections for the current account balance changed significantly. Banks and investors alike foresaw less dollar demand due to higher interest rates. Therefore, their demand for currency begun to favour the Kenyan shilling. Basing the whole report on that statement is simply garbage in garbage out.

Indeed, the report has some good recommendations including boosting the export base, improving CBK communication with the banks and boosting the CBK's regulatory tools. Nonetheless, the report comes about as more of a witch hunt than an investigative report.

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A walk down memory lane

Posted by Samora in Tuesday, January 17, 2012

Dear reader,

The author of this blog apologises for the infrequent posting. This blog has become like a shelf-company, it exists but it doesn't operate. Anyway, I decided to give links to a few blog posts that have been written before and that explain the structural issues that led to the annus horribilis that was 2011.

http://futurecapitalkenya.blogspot.com/2009/09/agricultural-reform-blind-visionaries.html

(explaining the lack of investment in agriculture and the likely consequences).

http://futurecapitalkenya.blogspot.com/2009/12/house-of-cards_15.html

(explaining that growth in Kenya has been based on capital accumulation rather than factor productivity. This often ends badly).

http://futurecapitalkenya.blogspot.com/2010/02/distorted-civil-service-pay.html

(Highlighting the fiscal flows in the budget. Highly distorted civil service remuneration).

http://futurecapitalkenya.blogspot.com/2010/10/real-estate-really-analysing-demand.html

(Investment in real estate... of most concern being the non-tradeable status of real estate)

http://futurecapitalkenya.blogspot.com/2011/05/capital-account.html

(explaining the dynamics of the current and capital account).

http://futurecapitalkenya.blogspot.com/2011/08/kenya-impressionable-young-banker.html

(General societal mal-investment)


Happy New Year and I hope to blog more often.

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Sunday Take-out

Posted by Samora in Sunday, November 20, 2011

This post will just discuss a few issues that have been happening in Kenya; regards to economics of course.


  1. Exchange Rate - This week we have been treated to a strengthening shilling. The local unit actually closed the week at a three-month low of 92.00/40 to the dollar. It seems that the unit is regaining its strength and this should be good for inflation in the country. However, import bills usually come during the end of the month and we are likely to see the shilling lose some ground towards the end of the month and probably come in at the 95/97 mark. I think we are past the 100 level. Going forward, I expect the shilling to touch the 85 mark during the first quarter of next year. It is too expensive to take positions against the shilling when T-bill rates are at 16%.
  2. Interest Rates - This is the new issue for Kenyans. A month ago all the attention was on exchange rates and inflation and now the issue is solely on interest rates. It was insightful to see Equity Bank raise their rates to 25%. In my view Equity Bank's rate hike will have the biggest effect as they have the highest number of depositors. Higher interest rates are "required" in times of high inflation so as to deal with the inflation. It is based on the classical relationship between inflation and economic growth. Milton Friedman, the father of modern monetary economics commented that "inflation is everywhere a money supply issue". Therefore to deal with high inflation, the regulators have to reduce the money supply. Be that as it may, it is arguable as to whether our inflation was a money supply issue or purely an issue of our political economy. When we have artificial inflation due to poor food distribution and a weak energy infrastructure, all because of our political economy, then the argument for money driven inflation is non-existent. This has been my argument throughout. Nonetheless, we are likely to see growth stall and I cant wait for end year GDP growth figures. I optimistically expect them to come in at 3%- 3.5%. People will suffer.
  1. Euro-zone issues - Europeans are losing their "moral" authority over Africans. Interestingly, the politics that would prevail in Africa is taking centre stage in Europe. By this I mean, procrastination, blame games and nobody willing to take the bull by the horn. Italians and Greeks have decided to appoint technocrats to lead their respective countries to reform. The Financial Times had an interesting name for these technocrats; "vulcans"; referring to the creatures from Star Wars who were characterised by reason and a lack of emotion. Indeed, it could be useful to work with vulcans, but all over the world, politicians are the only people who can effect unpopular decisions. Europe is faced with huge debt and an unwillingness to pick up that tab. In my view, Germany, the surplus nation must pick up that tab for the future of Europe and the rest of the world. Note that 45% of our current account is financed by Europe and 33% of our exports are to Europe. 
  2. Syokimau - We live in an interesting country. Technically, the KAA have a very strong argument for those demolitions, but why now?. KAA must have known all along that construction was being done on their land. Syokimau to many real estate dealers has been the place to be. While all this was going on, where was the KAA?. Kenya has to grow up. Interestingly, the NSE is talking up futures exchanges, EFT's and options. If you cant enforce property contracts, how on earth will you enforce promises?. 
  3. Election Date  - I was expecting our celebrity Chief Justice Mr. Mutunga to finally tell Kenyans when they are expected to vote. Unfortunately we got a purely legal argument suggesting that this decision lies within the remit of the High Court. I guess the buck has now been passed on to the high court. My advice to the High Court is simple, a lot of money is being held up from its efficient allocation due to uncertainty over the election date. Sort that out and let us all move on.
Enjoy your Sunday.

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Having a Functional Currency

Posted by Samora in Thursday, October 20, 2011

A quick post! I read the newspapers this morning and saw that the national carrier Kenya Airways is now charging domestic passengers in dollars. This follows on the heels of other companies such as CMC Motors and Toyota Kenya who are also pricing their products. Together with my biggest foe Multi Choice Kenya, it seems that more and more companies are abandoning the shilling.

This really frustrates me and should work as a wake up call to the CBK governor who has long been an advocate of "private sector solutions to exchange rate volatility".

For a long time, the CBK in their publications have been against having any capital/exchange rate controls as it goes against the ethos of having a free market economy. In their view, the private sector should come up with solutions to exchange rate volatility through financial innovations such as forward exchange rate contracts. In their rather idealistic world, companies like KQ when faced with the prospect of a weak shilling, should contact their bankers and arrange for forward currency contracts to hedge against the weak shilling. Now, the simple question is this; If KQ, a company domiciled in Kenya, which mark you has a functional currency, can charge in dollars; why on earth would they bother taking forward contracts to hedge against a weak shilling? They have a natural hedge as they simply switch their pricing to the more stable currency, and in addition, book decent exchange gains as they report their annual statements in the weaker Kenyan shilling.

In essence, if the CBK and the government want to deal with the currency issue, they should start by making sure that all companies in Kenya are in charge of their own exchange rate risk. Companies like KQ, CMC Motors, Toyota Kenya and Multichoice should all price their products in the Kenyan Shilling. This would first of all ensure that companies take control of their own exchange rate exposures and importantly for the economy, it would allow the exchange rate to perform its most pivotal function; to act as a pressure valve in the face of current account imbalances. A weaker currency always acts to turn trade deficits into trade surpluses and a strong currency does the opposite i.e. turn a trade surplus into a trade deficit. It's simple economics and the CBK should start thinking about making economics work in Kenya. If you travel to South Africa, you will notice that even their duty free products are priced in the Rand. This actually goes a long way in stabilising your currency. To me it seems that the Kenyan economic policy makers follow the Reagan School of Economics, following voodoo economics that clearly don't work.

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Dramatic CBK Rate Hike

Posted by Samora in Thursday, October 6, 2011

Prior to the MPC meeting on Wednesday 5th of October, I had suggested that a rate hike wouldn't be necessary as it is not a key-rate but rather a signal rate. My view is that the CBK want to take control of the process before parliament opens lest we witness currency controls. Over the last 2-3 years we have witnessed fuel price controls and food controls in the face of inflation hikes that arose from supply shocks. It could be a political move to prevent politicisation of the currency.

The economic argument for such a move is that in times of sustained supply shocks, like we are witnessing, it is important to tighten so as to avoid the "second-round" effects of a supply shock. These second round effects are mainly persistent inflationary expectations as well as wage pressures that lead to further inflation. Therefore, central bankers faced with persistent supply shocks decide to forego growth and control inflation by tightening. However, how can the CBK claim that they're tightening while the Cash Reserve Ratio is at such low levels? (4.75% monthly and 3% weekly). My guess is that its plain politics.

I would ask any economist to kindly explain to me how a higher CBR will allay supply driven inflationary pressures and strengthen a weak currency. (I'm talking about the nuts and bolts of a CBR rate hike - inflation - a weak currency). For centuries now a number of people have wrongfully confused economics with politics, I think this affliction is well and truly alive.

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Kenyan Shilling - Leave Prof Ndung'u alone

Posted by Samora in Sunday, October 2, 2011

On October 14th 2003, a young man named Steve Bartman was watching a Major League Baseball match between his favourite team the Chicago Cubs and the Florida Marlins. The Marlins hit a ball that was heading to the stands and particularly it was headed to where he was seated. The young fan like any other fan, took his chances and stretched out his hand so as to catch the ball as it approached. Unfortunately, the Chicago Cubs outfielder Moises Alou was also trying to catch the same ball. Steve Bartman therefore inadvertently impeded Mr. Alou from making the catch and the Marlins got a home run. The Cubs lost momentum and ended up losing both the game and the chance of making it into the World Series. They simply capitulated. However, in retrospect, most Cubs fans realise that the team's capitulation was not down to Bartman, but to their own shortcomings. Steve Bartman was simply in the right place at the wrong time therefore making the perfect scapegoat.

I find myself writing on the Kenyan Shilling, a topic which to me is rather cliche. However, reading, hearing and watching the media has to say, I feel that some grounded and balanced analysis would do. Especially in light of the fact that the currency has already, as expected, been politicised. The Prime Minister Hon. Raila formed a taskforce to "investigate" what is really ailing the currency. Now Hon. Chris Okemo, Chairman of the Parliamentary Finance Committee has entered into the fray. Requesting that the CBK governor explain what is happening to the shilling.

I would simply request that both the PM's taskforce as well as the Parliamentary committee refer to an "Introductory Economics" text book. That would really elucidate their respective tasks and solutions.

To the currency, I'd simply quote an excerpt from the recently released Q2 GDP figures from the Kenya National Bureau of Statistics.

Over the second quarter of 2011, the current account deficit widened to KShs 97.929 million compared to a deficit of KShs 43.839 million recorded in a similar period in 2010
Now, the question that automatically comes to the media is; "Who's to blame"?. The answer to that of late has been that it's Prof Njuguna Ndung'u of the CBK. I beg to differ, indeed the Central Bank has made some mistakes. Particularly their knee-jerk reactions to the current macro-economic climate. However, I opine that we're all to blame. Consider for instance the fact that most people only think of "real estate" when they are thinking of how to invest their hard earned money. Coffee Estates in the outskirts of Nairobi are being sold for real estate. Coffee is one of our biggest forex earners and as such, we are weakening the shilling in the pursuit of quick profits.

A house is a non-tradeable good, it can only be consumed where it is produced and as such can never earn us any forex. Therefore, as long as the country is focused on being less productive, the shilling at 104.00 looks rather cheap to me.

Back to Prof. Ndung'u, what is a Central Bank governor to do, in the face of society wide efforts towards non-tradeable goods? I posit that there is little much he can do. I go further and suggest that even a dream team of Ben Bernanke and a re-incarnated Milton Friedman wouldn't do our currency any good. Who is to blame?, we are all to blame. Prof Ndung'u is just the Steve Bartman of this game, he is at the right place at exactly the wrong time.

On the issue of interest rates being risen to mitigate the fall of the currency; If the South African Rand, Malaysian Ringgit and even the Singaporean Dollar are all facing pressures due to the current global macro climate, what makes anyone think that a 16% yielding shilling will attract global funds? Secondly, haven't interest rates already been risen? What is the point of focusing on the CBR when the real emphasis on the money markets is the Interbank Rate and the 91-day T-bill rate? Haven't these rates already risen?.

To surmise, the Central Bank governor cannot do much about the currency. Furthermore, we are all to blame in our pursuit of super profits from real estate investments, we have weakened the shilling. I suggest that any Kenyan following the current currency situation to read deeply about the causes of the Asian Financial Crisis. You will be spooked!

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Thoughts on Monetary Policy Committee Meeting

Posted by Samora in Friday, September 16, 2011

The Monetary Policy Committee met on Wednesday 14th of September to discuss the current market volatility. The outcome was an increase in the Central Bank Rate (CBR) of 75 bp to 7.0% from 6.25%. This was done so as to ward off further inflationary pressures. The current inflation rate is at 16.67% against a target of 5%. In addition, underlying inflation (inflation less food and energy inflation) is currently at 7%. The spread of 200 bp (Underlying inflation less inflation target) is a cause of concern for the MPC.

Further to this, the IMF's Extended Credit Facility is conditional upon a change in the composition of the broad money supply. Both M3 and L, with a bias towards Net Foreign Assets. Therefore the CBK, through policy actions should reduce the amount of domestic assets (NDA, in a nutshell shilling denominated assets) and increase the amount of foreign assets (assets denominated in foreign currency). This is being done with a view of shielding the economy from the adverse effects of our poor trade balance. Imports by far exceed exports, in addition our terms of trade are deteriorating. Simply, we are buying more than we sell and in addition the our buying prices by far exceed our selling prices.

To this end, I expect the shilling to further weaken. I think the shilling could hit the 100 mark by year end, although the Infrastructure bond could attract diaspora inflows. I then expect interest rates to rise in the mid-term as the tightening has an effect on money market liquidity. The current spike in T-bills to 12.57% is a pointer towards this.

Those who think that the MPC decision was good, suffer from delusion and probably an existentialist crisis. The famous philosopher Rene Descartes said "I think and therefore I am"... it follows that if you cant think then you don't exist.

If you raise rates and tighten liquidity due to cost-push inflation, you are seriously endangering economic growth. Furhermore, once T-bill and T-bond rates sky-rocket, there will be a serious re-alignment of domestic credit as banks lend more to the government and less to clients. We could see a serious slow-down in the private sector's access to credit going forward.

Note that the decision wasn't motivated by the CBK, but rather the IMF so don't blame Prof. Ndung'u.

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Kenya: The impressionable young banker

Posted by Samora in Thursday, August 25, 2011

Ahhhh, blogging, an art that I often love to indulge in, but more often lack the time for. Yesterday, the Business Daily had an impeccable column from the ever fresh George Wachira. In the article, George Wachira, a petroleum industry analyst did something that a number of economists expressing their views in the media have so far failed to do; explaining what really is ailing our economy. For that; Kudos Mr. Wachira, you have really hit the nail squarely on the head.

To take his points further, I will do what i have developed a knack for; developing analogies. To this end, I write the simple story of a Banker called Ken.

Mr.Ken graduated from high school with some good grades back in 1963. His parents and indeed his whole community had great expectations for him. A man with such undoubted intellect and charisma; a rare mix of resources, would clearly do well in life. Mr. Ken designated himself a career as a banker after some thorough soul searching. Banking, he thought, would be the best way to generate real wealth for himself in the long run.

In his formative years as banker, he caught the common bug that seems to afflict all bankers, the bug is called the "aesthetic fallacy".

The bug works by making the banker think that looking good and working on your appearance are the most critical aspect of making it in the industry. This bug was reinforced into Mr. Ken's mind by his well-heeled superiors from the global head office in London. To this end, Mr. Ken went on a borrowing spree, these loans were taken out so that he Mr. Ken can acquire Italian suits, a German car and hopefully an American wife.

Sappeurs of Congo, dressed to kill, but can't pay your bills.
When it came to his modes of investments, Mr. Ken focused on more exotic investments, he invested in "off-shore equities", "forex" and "global fixed-income" investments. These just sounded sexier at cocktail parties.

His high-school colleagues were mis-informed, they invested in "dumber" investments, his friend Hu, kept chickens. Mr. Saivash on the other hand started a potato farm. Mr. Ken was too good for these, in fact, he had started fiddling in tech stocks. Hu and Saivash were way behind the curve.

However, as time progressed, Mr. Ken found himself in a very compromising situation. His disposable income could barely keep up with his lifestyle and committments, his loans were due and this was exacerbated by the fact that he spent all his credit on consumables and worse still; his investments had all stalled, he was in the red. Meanwhile Hu and Saivash, had simply counted on the tried and tested technique of spending way less than you earn, managing your risks and waiting for compount interest to work its magic.

Mr. Ken then realised in his mid-life, that looking good is not what gets you far as a banker, Indeed it does help to look presentable, but what really cut the grade was hard work and ability. Some of his juniors whilst he was a mid level manager were now senior managers. Now, Mr. Ken was just a very presentable mid-level manager at a local subsidiary of a global bank.

Things didn't turn out well for Mr. Ken, his expenses by far exceeded his income and his investments had backfired. Bank's no longer lent to him and his financial counterparties had lost their trust in him. Hu and Saivash's companies were now global conglomerates, a far cry from their humble beginnings.

Lest I digress further, this is the story of Kenya's current woes and worse still, it's future woes; Moreover, this situation is completely self-inflicted. A look at the 2nd half banking sector report shows that over 44% of all loans and advances were advanced for consumption and real estate. Kenyans are selling their productive land so as to build apartments, the government has totally ignored manufacturing and agriculture and instead, it is focusing on an ICT park in the middle of nowhere "no offence if you hail from Malili". We are Mr. Ken, somehow convinced that external appearance matters more than productivity and work. We are also convinced that "sexy" investments like ICT and "regional financial hubs" are more important than the dull sounding agriculture and manufacturing.

Where has this lead us? Balance of payment woes as our expenditure by far exceeds our income. An 8% trade deficit simply means that we export 8% of our wealth to foreigners each year. This number is growing. Shit stuff has hit the fan!

As a country, we need to focus on agriculture and manufacturing. Simply, there is no other way!

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