Banks, businesses foresee moderate inflation increase

Banks and private sector companies expect the cost of living to rise, but remain contained within the preferred Central Bank of Kenya (CBK) range in the next one year, betting on stable food prices and muted spending pressure due to slow private sector credit growth.

The respondents in CBK’s market perceptions survey of September foresee only a gradual increase in prices of basic consumer goods and services, although their cautious optimism is likely to be tested if oil prices rise in the global market, which would have a significant downstream effect on the Kenyan economy.

The CBK, whose main mandate is price stability, prefers the rate of inflation to remain between 2.5 and 7.5 percent.

The introduction of value Added Tax (VAT) on petroleum products, as well as some basic food items, had been expected to push prices up significantly, but the fall in inflation, the cost of living measure, from 5.7 percent in September to 5.53 percent last month has eased some of these concerns.

The CBK polled a total of 377 companies, comprising 40 commercial banks, 13 microfinance banks and 324 private sector firms, the latter including 45 hotels, for the survey. The overall response rate was 67 percent.

“All respondents expected the increase in inflation to come from the direct impact and second round effects of the VAT on petroleum products, and from the rising international oil prices,” says CBK in the survey report.

“Inflation over the next 12 months, is however, expected to be moderated by the forecast adequate rainfall in most parts of the country, the stable macroeconomic environment, and the slow private sector credit growth.”

“Part of the reason prices have not risen as fast as was expected is due to the low private sector credit growth.”

The CBK data shows that credit to the private sector grew at a steady 4.3 percent in June, July and August, but while this is better than the lows of 1.4 percent witnessed during a similar time last year, it is still far below the 12-16 percent range thought to be ideal to spur inclusive economic growth.

In the survey, banks had expected only gradual growth in credit, but it is worth noting that the survey was done before the amendments to the rate cap law in the Finance Act, 2018, which have done away with the deposit rate floor on interest earning accounts.

This should ideally increase the banks’ interest margins. The jury is, however, still out as to whether this will spur an increase in lending, given that maximum allowed loan rates are still at near par with the risk free government debt rates (for bonds).

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Also of interest, analysts have noted, is the response of the regulator to the inflationary pressures, as well as the expected exchange rate climate for the next 12 months.

Three quarters of the respondents in the survey told the CBK that they expect the shilling to weaken in the next one year, which coupled with higher inflation could put a stop to the recent monetary policy easing trend.

Economists at Commercial Bank of Africa (CBA) say in their latest report that the fall in inflation last month might not be enough to prevent a possible rate increase in the near future.

“While inflationary pressures unexpectedly abated in October, suggesting little scope for interest rate hikes, we believe that persistent pressure on the exchange rate may be ground for tightening. For now, the Central Bank is likely to remain on hold as it monitors developments on the currency front,” says the CBA report.

The relatively healthy growth of the economy, at 6.3 percent in quarter two of the year and projected at nearly six percent for the year, has also reduced pressure on the CBK to continue with its monetary easing, which was seen as partly in effort to stimulate the economy to grow faster.

For the ordinary Kenyan, however, the rise in inflation also carries the risk of job losses.

Private sector respondents in the CBK survey from labour intensive sectors expressed concerns over a possible increase in wages resulting from the expected rise in inflation, and going by recent practice, companies have tended to react to rising costs by cutting jobs.

Other concerns by the non-bank private sector firms on increasing cost of doing business are due to low access to credit and delayed payments to suppliers by both county and central governments.