A better perspective would be reached if one was to take a deep dive beyond what the Shilling is trading at today. But don't bet on that happening; you will lose. Bobby McFerrin is firmly in control with his powerful message of "Don't Worry Be Happy". It worries me!
Monday 14 August 2017
The Kenya Shilling - Bobby McFerrin Firmly in Control of Analysis
So the 12th August 2017 edition of the East African (a Nation Media Group publication ) is reporting that the Kenya shilling is unshaken by poll jitters. I am not surprised. Actually I argued two days ago that such pseudo analysis will fill the air as business media looks for content that will make it look serious and analytical.
A better perspective would be reached if one was to take a deep dive beyond what the Shilling is trading at today. But don't bet on that happening; you will lose. Bobby McFerrin is firmly in control with his powerful message of "Don't Worry Be Happy". It worries me!
A better perspective would be reached if one was to take a deep dive beyond what the Shilling is trading at today. But don't bet on that happening; you will lose. Bobby McFerrin is firmly in control with his powerful message of "Don't Worry Be Happy". It worries me!
Thursday 10 August 2017
The Policy Choices We Confront - Some Random Macro Thoughts (A BitTechnical)
Now that Kenya has had a presidential election and the winner is being determined by the relevant agency, every pundit and pseudo-pundit (all expressing their prowess or lack thereof on television) is engaged in what econometricians would call (for lack of a better word) mock out-of-sample predictions.
The very little time I have spend listening to their "sudden" wisdom, I haven't gotten any reason to imagine that any of them has a "model" to guide their prediction. I am therefore safe to assume that the said wisdom doesn't extend to their evaluation of the macroeconomic policy choices linked to either side once a winner is declared.
That doesn't mean that on the business/economics side there are no quick, if casual, predictions (but those are not on TV, for such stuff doesn't sell at such a time). The easy one, where fake expertise is as always in display, is when people are falling on each other on how the Kenya shilling has been stable even on the verge of the presidential elections. Or that the stock market remains healthy despite low trading volumes.
The other is when an international rating agency is busy telling us the necessary, simultaneously sufficient, for the sovereign rating to be maintained. Reuters reports S&P arguing that Kenya's B+ credit rating and stable outlook won't be affected by its election as long as there is no repeat of the violence similar to the post 2007 vote. On this I don't have to agonise, for I have my mind clear on how such views are motivated. As I recently argued, these are calculated guesses!
These casual economic observations force me to step back nearly four decades, precisely to 1979, when there was an important occurrence. Don't get me wrong; I am not talking about the overthrow of the dictator of Uganda, Idi Amin in April 1979. Nor am I talking about Michael Jackson releasing his breakthrough album "Off the Wall" in August 1979.
Instead I am talking about the publication of Paul Krugman's seminal paper titled "A Model of Balance of Payment Crises". Krugman's formalisation of a balance of payment crisis hinges on the coexistence of an expansionary domestic credit policy and a fixed exchange rate regime.
If the central bank's monetary policy is predicated on some measure of money supply (in other words money demand is predetermined) then the only way to sustain an expansionary credit policy is through reducing foreign exchange reserves. But the central bank has a lower limit of reserves that it must hold.
If there is a pre-existing fiscal deficit (in other words the fiscal policy imposing an exogenous constraint), then the monetary authority has to adjust the rate of credit expansion (with, as noted, the effect of lowering the foreign reserves) to balance the budget. If this comes at the breaching of the lower limit of foreign currency reserves, then the foxed exchange rate regime collapses. This is the currency crisis that Krugman likes to joke as having invented (and not the real thing).
How does this relate to Kenya's policy choices at the moment? The lazy and obviously wrong answer is that such theory is at the very least irrelevant. Those with such inclination will no doubt make three arguments:
I don't want to take the flavour from the study, so I will let it speak for itself:
"Why do governments in developing economies invest in roads and not enough in schools? In the presence of distortionary taxation and debt aversion, the different pace at which roads and schools contribute to economic growth turns out to be central to this decision. Specifically, while costs are front-loaded for both types of investment, the growth benefits of schools accrue with a delay. To put things in perspective, with a “big push,” even assuming a large (15 percent) return differential in favor of schools, the government would still limit the fraction of the investment scale-up going to schools to about a half. Besides debt aversion, political myopia also turns out to be a crucial determinant of public investment composition. A “big push,” by accelerating growth outcomes, mitigates myopia—but at the expense of greater risks to fiscal and debt sustainability. Tied concessional financing and grants can potentially mitigate the adverse effects of both debt aversion and political myopia".
So the shilling may hang on, and S& P may maintain its sovereign rating. But for how long? That is the economic question that the country's political choice may have to be confronted with. And if there is a movement for the worse, it may be swift like a Wile C. Coyote moment - when he is falling down the cliff, it is when he least expects it (see below).
The very little time I have spend listening to their "sudden" wisdom, I haven't gotten any reason to imagine that any of them has a "model" to guide their prediction. I am therefore safe to assume that the said wisdom doesn't extend to their evaluation of the macroeconomic policy choices linked to either side once a winner is declared.
That doesn't mean that on the business/economics side there are no quick, if casual, predictions (but those are not on TV, for such stuff doesn't sell at such a time). The easy one, where fake expertise is as always in display, is when people are falling on each other on how the Kenya shilling has been stable even on the verge of the presidential elections. Or that the stock market remains healthy despite low trading volumes.
The other is when an international rating agency is busy telling us the necessary, simultaneously sufficient, for the sovereign rating to be maintained. Reuters reports S&P arguing that Kenya's B+ credit rating and stable outlook won't be affected by its election as long as there is no repeat of the violence similar to the post 2007 vote. On this I don't have to agonise, for I have my mind clear on how such views are motivated. As I recently argued, these are calculated guesses!
These casual economic observations force me to step back nearly four decades, precisely to 1979, when there was an important occurrence. Don't get me wrong; I am not talking about the overthrow of the dictator of Uganda, Idi Amin in April 1979. Nor am I talking about Michael Jackson releasing his breakthrough album "Off the Wall" in August 1979.
Instead I am talking about the publication of Paul Krugman's seminal paper titled "A Model of Balance of Payment Crises". Krugman's formalisation of a balance of payment crisis hinges on the coexistence of an expansionary domestic credit policy and a fixed exchange rate regime.
If the central bank's monetary policy is predicated on some measure of money supply (in other words money demand is predetermined) then the only way to sustain an expansionary credit policy is through reducing foreign exchange reserves. But the central bank has a lower limit of reserves that it must hold.
If there is a pre-existing fiscal deficit (in other words the fiscal policy imposing an exogenous constraint), then the monetary authority has to adjust the rate of credit expansion (with, as noted, the effect of lowering the foreign reserves) to balance the budget. If this comes at the breaching of the lower limit of foreign currency reserves, then the foxed exchange rate regime collapses. This is the currency crisis that Krugman likes to joke as having invented (and not the real thing).
How does this relate to Kenya's policy choices at the moment? The lazy and obviously wrong answer is that such theory is at the very least irrelevant. Those with such inclination will no doubt make three arguments:
- One, our foreign exchange regime is free floating. Indeed it is, but if Bloomberg is to be believed, then there is a gag to the nominal exchange rate movement.
- Two, the Central Bank of Kenya's monetary policy is interest rate based. Indeed it is, but as I have argued before, with the re-introduction of interest rates capping the monetary policy tool is rendered impotent.
- Three, we have adequate reserves and even a stand-by facility from the International Monetary Fund (IMF). True, but if our fundamentals are right, then the facility wouldn't be necessary (in other words, the very fact that we have the IMF facility is a signal of vulnerability). Even the adequacy of reserves needs to be seen on the back of the monetary authority's comportment towards the movement in the nominal exchange rate as reported by Bloomberg.
I don't want to take the flavour from the study, so I will let it speak for itself:
"Why do governments in developing economies invest in roads and not enough in schools? In the presence of distortionary taxation and debt aversion, the different pace at which roads and schools contribute to economic growth turns out to be central to this decision. Specifically, while costs are front-loaded for both types of investment, the growth benefits of schools accrue with a delay. To put things in perspective, with a “big push,” even assuming a large (15 percent) return differential in favor of schools, the government would still limit the fraction of the investment scale-up going to schools to about a half. Besides debt aversion, political myopia also turns out to be a crucial determinant of public investment composition. A “big push,” by accelerating growth outcomes, mitigates myopia—but at the expense of greater risks to fiscal and debt sustainability. Tied concessional financing and grants can potentially mitigate the adverse effects of both debt aversion and political myopia".
So the shilling may hang on, and S& P may maintain its sovereign rating. But for how long? That is the economic question that the country's political choice may have to be confronted with. And if there is a movement for the worse, it may be swift like a Wile C. Coyote moment - when he is falling down the cliff, it is when he least expects it (see below).
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