All You Need To Know About Kenya's Foreign Exchange Code

The Central Bank of Kenya announced the issuance of the Foreign Exchange Code (the FX Code) on March 22, 2023, to commercial banks, in a move to regulate wholesale transactions of the foreign exchange market in the country.

The measure is in response to the wide variation of exchange rate spread in the market, as discussed in our currency review note, and comes as a control measure following the dollar shortage witnessed in February and March.

Kenya’s forex reserves have been declining, coming in at USD 6.6 bn as at March 23 2023, equivalent to only 3.7 months of import cover and below the statutory requirement of maintaining at least 4.0 months of import cover.

Due to the US dollar shortages, most commercial banks were quoting exorbitantly high exchange rates, especially on the selling rates of the US dollar, as compared to the official rates quoted by the Central Bank, necessitating the need for uniform regulations to control the situation.

For instance, as of March 10 2023, the Central Bank’s mean rate was Kshs 128.9, as Tier 1 banks’ average came in at Kshs 133.7, while the average for all banks was Kshs 133.3.

The FX Code, issued under Section 33(4) of the Banking Act Cap 488 Laws of Kenya, has stipulated standards that commercial banks and other financial institutions must adhere to in conducting foreign exchange business in Kenya.

The FX Code aims to promote a robust and transparent foreign currency market through the following reporting guidelines:

Compliance with FX Code – All market participants (commercial banks and foreign exchange brokers) will be required to conduct a self-assessment and submit to the CBK a report on an institution’s compliance with the FX Code by April 30 2023. Further, all market participants will be required to submit to CBK a detailed compliance implementation plan that its Board approves by June 30 2023, and each participant must be fully compliant with the aforementioned code by December 31 2023,
Reporting Mechanism – All market participants must submit a quarterly report to CBK on compliance with the FX Code within 14 days after the end of every calendar quarter, with the first report due by July 14, 2023.
In the event of non-compliance, CBK may take appropriate enforcement and other administrative action, including monetary penalties as provided for under the Banking Act against any market participant, and,
Prohibitive Practices – The FX Code mainly identifies practices geared towards market disruptions, such as price quotations, manipulating price movements creating artificial delays, or false impressions on market depth and liquidity by any market participants will result in heavy penalties. Additionally, market participants are not to engage in position or point parking (artificial transactions to conceal positions or transfer profits or losses).

The move by the Central Bank of Kenya to introduce the FX Code, effective March 23, 2023, is a step in the right direction following the hoarding of the US dollars witnessed in the months of February and March. However, more measures need to be put in place to ensure transparency of the exchange market.

While the FX Code highlights Prohibitive practices that will attract enforcement, the code neither identifies the individual non-compliance practices nor gives practices termed price manipulations.

Consequently, the code does not give the appropriate enforcement measures the Central Bank will take on each non-compliant participant with regard to the degree of the offence.

As a result, introducing the FX code of conduct is unlikely to be effective if such practices are not identified, classified, and made known to the public.

Further, providing the FX Code is only enough if the current administration strengthens the core structures that anchor the value of the Kenyan currency.

As a result, the government needs to increase its export volume while minimizing imports. As it stands, the imports bill as of December 2022 came in at Kshs 200.1 bn, 2.9 times the export amount, which was Kshs 68.8 billion in the same period.

Additionally, the government must manage external debt levels of Kshs 4.7 trillion as of December 2022, which is 51.1% of total debt; of the external debt, 69.3% is United States Dollar denominated.

A reduction in external debt levels will reduce the costs of servicing such debts and consequently ease the dollar demand in the country.

Source: Cytonn Investments