The upward pressure on interest rates is expected to ease after progress in peace negotiations between the US and Iran pulled oil prices to a four-month low, allaying fears of prolonged high inflation.
Analysts say that the Central Bank of Kenya (CBK) now has a strong case to hold its rate unchanged in the next monetary policy meeting in August due to easing inflation, in the process capping the recent jump in short-term rates on government securities.
Since the war in Iran started on February 28, rates on the 91-day and 182-day Treasury bill have gone up by 1.4 and 1.2 percentage points to 8.83 percent and 8.96 percent respectively.
Bond buyers also demanded a return of 15.1 percent on a 25-year paper that was reopened last month, against its actual interest rate or coupon of 13.92 percent.
Investors demanded higher returns after inflation rose to 6.7 percent in May from 4.3 percent in February due to higher fuel prices. For investors in the government securities, higher inflation erodes the real returns from their assets, which come with a fixed annual interest rate.
The cost of living measure however dropped to 6.4 percent in June, with a further decline expected once fuel and food prices come down in the coming weeks.Â
Current spike in inflation
On Tuesday, Brent crude was trading at $72.78 a barrel, a price last seen on February 27. The price of oil had risen to highs of $120 a barrel at the peak of hostilities in Iran in March.Â
“Overall, we project a lower inflation path in the near-term. Expectedly, earlier projected pressure on short-end interest rates is likely to be moderated by reduced inflationary pressures amid ample market liquidity,” analysts at NCBA Investment Bank said in their latest weekly fixed income report.
In the last MPC meeting on June 10, the CBK kept the base rate unchanged at 8.75 percent, saying it needed to take stock of the evolving situation in Iran, in line with similar cautious stances by central banks in developed markets.
CBK Governor Kamau Thugge later said that the apex bank was optimistic that inflation would peak below the upper limit of its target range of five percent plus or minus 2.5 percentage points, due to an expectation of de-escalation of the conflict in the Middle East.
By opting to keep its base rate unchanged, the CBK also considered the fact that the current spike in inflation is primarily driven by higher prices of imported fuel and consumer goods (imported inflation) rather than underlying demand pressures in the economy.
Global oil price relief
Analysts at Sterling Capital have backed the CBK’s view in their latest monthly fixed income report, projecting a hold in the base rate in the August MPC meeting.
“We feel that the recent easing of headline inflation to 6.4 percent, alongside anticipated global oil price relief from the US-Iran agreement, reduces the pressure for monetary tightening in the August 2026 meeting,” said the Sterling Capital analysts.
The first test of the expectations of lower pressure on yields will come in the July 2026 Treasury bond auction, which will take place on Wednesday.
In the sale, the CBK reopened three papers with periods to maturity of between 5.8 years and 29.9 years, allowing it to gauge investor sentiment across the full breadth of the government securities yield curve.
The reopened papers include a 10-year bond first sold in May 2022, which comes with a coupon of 13.49 percent. The CBK has also reopened a 20-year bond from July 2021, which pays annual interest of 13.44 percent, and a 30-year paper first sold in March 2026 at a coupon of 12.5 percent.
The three bonds are targeting Sh70 billion, marking the start of the government’s borrowing for the 2026/2027 fiscal year in which it is seeking a net of Sh1.03 trillion from the domestic market.
