The Federal Open Market Committee – FOMC of the United States Federal Reserve Bank on Wednesday March 17 hiked rate a quarter of a percentage point. Federal Reserve Chairman Jerome Powell cited a 0.25% in every FOMC meeting as they seek to ebb inflation back to the 2.0% from the current 7.9% levels. Inflation in the US has been fueled by excess liquidity from pandemic induced central bank stimulus injections that has been compounded by an acute spike in crude prices, an autopsy of the current Russian – Ukrainian war as geopolitical tensions thicken globally. Signs in the sky were evident when the consumer price index persistently scaled post pandemic while growth successfully recouped. The FOMC decision marks the genesis of a monetary policy tightening which does have implications on emerging and frontier markets whose central banks can be criticized for being overly conservative over 1Q22 in keeping rates flat.
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Africa’s second largest hotspot, Zambia kept its rate tad at 9% in its February 2022 sitting citing declining inflation trajectory which many analysts argued as being mathematical (base effects) than forward looking. Zambia’s peers such as South Africa has commenced a rate hike cycle that should see three rate hikes to push the repo rate to 5.0% and prime rate to 8.5%
RATE HIKE ECHOES NO NEW MONEY IN GOVIES, CURRENCY WOES AND INTEREST RATE BEARS
The US Fed rate hike cycle spells the era of a strong dollar that will suck strength from all emerging and frontier market currencies. The chaotic state of the world marred by geopolitical tension, pandemic uncertainty, excessive inflation, fiscal fragilities and rallying commodity prices does support safe haven appetite for dollar denominated assets. These include US denominated treasuries and gold whose prices are evidently at record highs. This pattern is traditionally proven in times of uncertainty as players seek to hedge investments. A strong dollar environment does to some extent dent the commodity market by ending the enjoyed super cycle through dampened demand due to high costs. Most jurisdictions grappling with fiscal balancing through debt service and dollar reserve management will bear the brunt. For Zambia already in the labyrinth of a debt restructure and foreign exchange reserve building (just under $3 billion) the costs of intervention to stabilize the currency are high with high risk of waning import cover. Other peer currencies such as the South African Rand are already taking a negative cue from asset sell – off pressure mounting from capital out flows from Africa’s most industrialized economy.
The recent influx of liquidity from global investors seeking higher yielding investments in emerging and frontier markets at a time returns in the west were ultra-thin, has started to fade. New money in government securities is less likely and the odds of treasury maturities being rolled over is low as investors are more likely to repatriate proceeds. This will breed increased demand for dollars adding to already existing currency woes from petroleum imports and general economic activity any importing nation is exposed to.
One of the autopsy effects of the repatriation of government security proceeds, be it outright maturities or coupons and no influx of new money searching for yields, would be an ease in compression pressure on the Kwacha yield curve. The Kwacha demand curve had significantly rallied post the August polls as political risks subsided and sentiment ticked higher coinciding with the state of the global economy. However this pattern risks reversing with the metamorphosis in the risk off environment which could overburden the domestic market to fund the 2022 budget causing a credit market crowding out effect. In a nut shell a thinning in influx of foreign flows entails little support to the exchange rate in the next coming months.
Higher US interest rates do complicate debt restructure posture as refinance options may have to be rethought by various creditor classes, Eurobond holders especially.
US Fed Chair Jerome Powell. The US Fed hiked rates 0.25% in its March FOMC meeting to curb inflation pressure.
Zambia’s central bank Governor Dr. Denny Kalyalya at the February 2022 MPC announcement.
WHAT THE ODDS OF BOZ NARROWING THE CURVE LAG IN THE NEXT MPC ARE
The rate decision meeting of February 2022 kept rates tad at 9.0% with the committee citing an ebbing inflation trajectory. However the bulk of market analysts were of the view that if the central bank was forward looking, a rate hike was more eminent. The state of the global environment into the first half of 2022 was marred by inflation as demand pull pressure bred from excess liquidity added inflationary pressure to the already existing supply chain pandemic effects such as escalating food and logistic prices.
A little trip down memory lane in 2015 Zambia’s central bank hiked rates 300 basis points from 12.5% to 15.5% in the November MPC sitting in response to a US Fed tapering program. The copper currency the Kwacha was on a record losing streak to above ZMW14/USD which coincided with the countries domestic energy crisis as drought effects weighed.
Fast forward to the future, the Russia – Ukrainian war has propelled crude prices causing forecasted supply shocks that have exacerbated the global inflation quagmire that triggered the US Fed FOMC to commence a rate hiking cycle aimed at taming inflation aggressively in the year. This will likely breed a strong dollar environment supported by uncertainty in a chaotic world, immense asset sell – off pressure from capital ‘flight to safety’ as players seek refuge in safer haven assets such as US treasuries and gold and dollar strengthening induced cost – push inflation pressure. For a net importing nation like Zambia, high Brent prices in a currency depreciating environment is both consumer and input inflationary and could as early as May start to reverse gains posted so far to delay realignment within the 6-8% CPI target.
Monetary policy is inflation based and as such the bearish forecast could spell the genesis of a rate hike cycle for the Southern African nation which could be dubbed a reactive to narrow the lag in the interest rate curve. Zambia’s next rate decision sitting is in May of 2022.
The Kwacha Arbitrageur