BoU stalls shilling attack

Jul 10, 2007

AN offshore attack on the shilling paused last week when the central bank cancelled a sh65b Treasury Bill offer, putting the brakes on further shilling gains, money market players have said.

By Sylvia Juuko

AN offshore attack on the shilling paused last week when the central bank cancelled a sh65b Treasury Bill offer, putting the brakes on further shilling gains, money market players have said.

Since the beginning of the year, the shilling has appreciated to 1,645/50 to the dollar from 1,770/75 in January. It hit a seven year high of sh1,585 to the dollar last month.

The shilling’s growing strength has been attributed to higher export earnings, kyeyo money (remittances from Ugandans abroad), new dollar inflows from southern Sudan and the effects of last year’s Stanbic Bank share sale.

However, this trend has found new strength recently from speculators who entered the market to buy shillings, further raising the local currency’s value.

“Speculators were playing the market in a way that would elevate the rates. The cancellation of the auction could be a signal to the speculators to stop this behaviour,” an analyst said, adding that unusual interest from the US, UK and South Africa had been registered.

He explained that the currency raiders were exchanging their hard currency for shillings and creating higher demand for it, therefore, pushing it up against the dollar.

They would then buy government securities, hoping to make a double gain from the interest they earn from Treasury Bills and by buying back a more weakened dollar.

For example, if they sold dollars at sh1,700, earned 10.49% on the 91-day T-bill and bought back dollars at last week’s sh1,635, they could make a few million or billion shillings profit.

The central bank’s unprecedented cancellation of last Wednesday’s sh65b Treasury Bills (TBs) auction, therefore, took speculators by surprise.

“Speculators have been attracted to the government securities market. They are taking advantage of the interest rate differentials, which they think are big enough to cushion them from any foreign exchange risk,” the economist said.

A central bank official said: “Market conditions didn’t warrant an auction of treasury securities at that time. Our securities are offered for mopping up in line with our monetary policy.”

The economist suggests that cancellation of the auction signals the central bank’s ability to meet its monetary policy objectives given the circumstances.

“What the Bank of Uganda (BoU) might have had in mind was that its participation would have sent the wrong signals. The central bank intervenes in the market not to influence direction of the exchange rate but to conduct its monetary policy. Cancelling the auction is an intervention that sends signals to the market,” he said.

Dealers in the foreign exchange market said the central bank’s action surprised them.

“They had issued results of the auction then sent a notice of cancellation. We have not got any explanation as to why this action was taken,” Catherine Kijjajjulwi, a money market dealer at Barclays Bank, said.

Kijjajjulwi said the shilling was trading at 1,645/1,650 to the dollar in the inter-bank market on Tuesday (July 3) morning compared to Friday’s (July 6) closing rate of 1,630/1,635.

The dealers said the foreign exchange rates had stabilised in a market awash with shillings.

“In the last few days, the shilling has reached its tipping point. You notice that it has stabilised and tended to mildly depreciate.”

No one can tell for how long this new found stability will last.

Kijjajjulwi said the central bank had been out of the market since the cancellation and had not participated in the repo (a contract in which a seller, especially of securities, agrees to buy them back at a specific price and time) market.

Economists say the strong shilling driven by market fundamentals has continued to worry exporters, who say the local unit’s strength renders them uncompetitive.

The appreciation bias was also triggered by improved terms of trade, expectations of the Commonwealth Heads of Government Meeting, investment inflows, increased offshore inflows and improved workers’ remittances.

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