Why the Tenge Has Strengthened Below 500 per Dollar

The tenge fell below 500 per US dollar in February. Many people are asking why it has strengthened. There are several reasons, and I will try to set them out:

February is traditionally a tax month: subsoil users pay their taxes for the fourth quarter, since payment falls in the second month after the end of the reporting period. To do so, they sell their foreign-currency revenue, while demand for dollars in February is traditionally weak. One reason is government spending, an important driver of imports, which depends heavily on bureaucratic procedures (budget requests, tenders and so on).

The second factor is the strengthening of the Russian ruble. After strong signals of possible ceasefire negotiations in Ukraine, the ruble rose sharply. The tenge traditionally moves in step with the ruble, because Russia is Kazakhstan's largest trading partner.

The National Bank has an interest in a strong tenge, as it has a mandate to control inflation. Because Kazakhstan's economy depends heavily on imports, inflation is directly linked to the tenge exchange rate. To support the exchange rate, the National Bank uses a number of tools:

Selling dollars on the market in an amount equal to the gold it has purchased. The National Bank of Kazakhstan (NBK) buys up all the gold mined in the country. It used to pay for it in tenge, but now, to reduce pressure on the exchange rate, it sells dollars in a mirror operation, which is a logical and balanced solution.

Raising minimum reserve requirements. This restricts lending and reduces demand for money that could be spent on imports and on buying foreign currency, thereby strengthening the tenge. The higher the reserve requirements, the stronger the national currency.

A high base rate. On the one hand, it makes tenge assets more attractive, since the yield in tenge exceeds the potential depreciation of the currency. On the other hand, a high rate restricts lending, reducing imports and demand for foreign currency, which also strengthens the tenge.

As a result of all these factors, the tenge has strengthened considerably. The potential for it to remain stable persists at least until 25 February.

It is also worth bearing in mind that in developed countries financial markets respond keenly to signals. For example, when information emerges about a possible change in monetary policy, the exchange rate reacts almost instantly, because economic agents begin hedging their risks in advance. In Kazakhstan, because of substantial restrictions on buying and selling foreign currency, such signals do not work: the reaction comes only when the event itself occurs. This makes hedging harder for legal entities, which leads to losses for business.

The regulator's logic in restricting forex operations is a desire to influence the exchange rate, but the effect of such measures is limited in time and works only in the short term. Over the long term the tenge still comes under pressure, because economic agents will in any case buy the foreign currency they need, only not in advance but at the moment of need. The total volume of currency purchases over a long horizon stays the same.

As a result of the hedging restrictions, banks come out ahead, since they can hold open currency positions of up to 25% of capital, unlike businesses. Individuals are less sensitive to economic signals and act reactively. They usually buy foreign currency only after sharp jumps, which leads to losses. For example, many people kept their money in tenge because of high interest rates, then, when the tenge weakened to 540, began buying dollars actively at the peak. Now that the rate has strengthened again to 500, selling is no longer profitable: the losses are locked in, while the yield on dollar deposits remains extremely low (about 1%).

To avoid such situations, the market needs to be more liberal, and economic signals should reach participants in advance rather than with a delay, as happens now.