Kenyan government steps in to rescue shilling,

NAIROBI Thu Sep 29, 2011 1:04pm EDT

A currency dealer counts Kenya shillings at a money exchange counter in Nairobi October 23, 2008.    REUTERS/Antony Njuguna

A currency dealer counts Kenya shillings at a money exchange counter in Nairobi October 23, 2008.

Credit: Reuters/Antony Njuguna

NAIROBI (Reuters) - Kenya formed a team of key officials on Thursday to halt the slide in the shilling and will unveil new measures early next week, the latest move to try and restore confidence in the east African country's ailing currency.

Prime Minister Raila Odinga's office said in a statement that efforts by the Central Bank of Kenya had not been sufficient to stop the rot and further action was needed.

The shilling is the world's second worst performing currency in 2011 after being battered by double-digit inflation, investor aversion to riskier assets in emerging markets and a loss of confidence in central bank policies.

"We've got this crisis that's blowing up hard. We've got a situation at the moment where the finance minister is in The Hague, the governor is still (abroad), so we've got this crisis here and there are questions of who's in charge? who is managing it? Everybody's saying 'Who's in the driving seat'?" said Robert Shaw, an independent Nairobi-based economist.

"In terms of whether that is a go at the central bank governor, there are a number of questions as to how it's being handled by the governor, from the beginning to now."

Kenyan Finance Minister Uhuru Kenyatta is at the International Criminal Court in The Hague where he was giving evidence on Thursday in a bid to avoid being indicted for crimes against humanity during post-election violence after a 2007 presidential poll.

Central Bank of Kenya Governor Njunguna Ndung'u travelled to Washington for the recent IMF/World Bank meetings. He is due back in his office on Friday.

The shilling climbed to 99.65 against the dollar after the prime minister's statement, up from a record low of 104.15 on Tuesday, although it is still down 23.5 percent so far in 2011.

Data published on Thursday painted a deteriorating picture of east Africa's biggest economy and analysts said some foreign investors were also worrying about political risk in the light of The Hague proceedings, and another election looming in 2012.

Inflation rose for the 11th straight month in September to 17.3 percent, economic growth (GDP) slowed in the second quarter to 4.1 percent from 4.8 percent in the first three months of the year and the current account deficit more than doubled from the second quarter of 2010.

"GDP has slowed well ahead of the 2012 Election and GDP has a near perfect inverse correlation with the electoral cycle," said independent analyst Aly Khan Satchu.

"Political risk is once again front and centre with foreign investors now latching onto the prospect, or not, of Kenya surrendering the (election violence suspects) if the charges are confirmed," he said.

"Inflation is still rising and it remains a perfect storm. The bull case is practically impossible to make."

"LOSS IN CONFIDENCE"

Analysts said the latest intervention by the government, and the expectation of new measures next week, should support the shilling, although caution would prevail until it was clear what action the new high-level committee might take.

"It still creates uncertainty," said Kennedy Butiko, deputy head of treasury Bank of Africa. "But the initial market reaction is for people to sell the dollar because they perceive the committee will have to come up with guidelines that will favour the shilling."

The new committee is made up of officials from the Presidency, the Treasury, the central bank, the planning ministry, the statistics office, the private sector, as well as the secretariat overseeing for Kenya's plan to become a middle-income nation by 2030.

While analysts recognise there are a number of fundamental economic reasons why the shilling has fallen against the dollar this year, criticism of central bank policymaking has been growing, at home and among foreign investors.

The statement came shortly after the central bank said it would hold its next MPC meeting on October 5, just three weeks after a special meeting where it raised its benchmark lending rate by 75 basis points to 7.00 percent.

Analysts said they expected the central bank to raise rates again, but not by enough to save the shilling.

They say the bank has been behind the curve since January when it cut its benchmark lending rate, just as inflation was starting to accelerate in east Africa's biggest economy.

Inflation is now running at 16.7 percent, yields on three-month paper have surged to 12.6 percent from 2.4 percent in January and the government is struggling to sell debt at regular auctions to fund its budget deficit.

The government issued a new 12-year bond to fund infrastructure projects on Wednesday targeted at Kenyans living abroad, but bids only came to 13.3 billion shillings, well below the 20 billion on offer.

"For sure there's a loss in confidence with the central bank. You could tell where there were weaknesses. Some people in internal circles did not want to be told by the market where the weaknesses were," said a trader who declined to be named.

COORDINATED APPROACH

Analysts said the government needed to look beyond just monetary policy to resolve the crisis as the risks to the wider economy from the shilling's weakness were significant.

"A coordinated approach, going beyond the limits of monetary policy alone, is needed. This suggests a joint solution is in the works covering fiscal policy, possibly lumpy capital imports, cooperation from the private sector, and a determined stance from the central bank," said Razia Khan, Head of Research, Africa, at Standard Chartered bank.

The central bank has tinkered with rules for interbank lending and borrowing from its emergency window to try and support the currency, sending overnight interest rates as high as 30 percent, but any reprieve for the shilling has been brief.

In the latest move unveiled on Friday, the central bank said it would buy and sell hard currency directly with end customers and cut out the banks it partly blames for driving the shilling lower through speculation.

On Wednesday, it ruled that banks could no longer use an electronic brokerage service to trade the Kenyan currency.

The prime minister's intervention is the third time politicians have weighed in to try and help the shilling.

Kenyatta challenged the central bank in August to restore monetary stability and said the Treasury was in discussions with the bank about policy.

President Mwai Kibaki also stepped into the fray in September, saying the government would seek more hard currency from the International Monetary Fund to help restore stability to Kenya's financial markets.

The ailing shilling has increasingly become a topic of conversation among Kenyans and in the media.

In a rare onslaught, Kenyans started poking fun at the currency's weakness on Twitter on Tuesday and for a time #ThingsStrongerThanTheKenyaShilling was the most the popular subject in the world on the social media.