What you should know about Inflation

Kenya, one of Africa’s most vibrant economies, isn’t immune to the natural economic phenomenon known as inflation. As a resident or someone looking to invest in Kenya, understanding this economic reality can help you better navigate your financial decisions. Let’s break it down to understand it better.

What is Inflation, and How is It Measured?

Have you ever wondered, my friend, why the price of a loaf of bread or a litre of milk seems to increase over time consistently? That, dear reader, is the basic understanding of inflation. In simple terms, inflation can be described as the rate at which the general level of prices for goods and services is rising. 

But how does one measure something as abstract as the general price increase? The Kenya National Bureau of Statistics has the answer. The Bureau calculates the Consumer Price Index (CPI). This handy tool compares the current cost of a basket of goods and services to that of the same basket during a previous period. In this way, the CPI provides a statistical estimate of inflation, making it palpable and measurable. 

For instance, if the CPI was 150 in 2020 and 160 in 2021, we calculate the inflation rate with a straightforward formula: [(160-150)/150]*100, which gives an inflation rate of 6.67%.

Understanding this CPI-based method is essential because it’s the standard approach used by the Central Bank of Kenya and international institutions like the World Bank. However, keep in mind that the CPI and, hence, the inflation rate are based on estimations and averages, so they might not exactly match your personal experience of price changes.

The Main Causes of Inflation in Kenya

Understanding inflation in Kenya requires diving deeper into the driving causes. A range of economic factors contribute to the escalation of prices, affecting the purchasing power of the average Kenyan citizen. Here, we explore some key causes. 

Demand-pull Inflation: This happens when demand for goods and services outstrips the economy’s ability to produce them. Think of it as a tug of war – when the market pull is stronger than the supply’s ability to hold its ground, prices are yanked upwards. For instance, if the economy booms and Kenyans have more income to spend, demand for goods and services rises. If supply can’t keep pace, prices increase. 

Cost-push Inflation: This kind of inflation is a direct result of increasing production costs. Suppose businesses in Kenya face higher costs for raw materials or wages. In that case, they’ll likely pass these costs on to consumers through higher prices. This raises the general level of prices, leading to cost-push inflation. 

Imported Inflation: As a country that heavily depends on imports, Kenya is prone to this type of inflation. A sharp rise in the costs of imported goods and services, perhaps due to a weakening Kenyan Shilling against the currency of the trading partner, can prompt a corresponding increase in the price level in Kenya. 

Note: It’s important to bear in mind that these aren’t the only causes. Inflation is often the result of a combination of factors, and different economic conditions can contribute to its rise or fall at any given time.

The key to understanding inflation in Kenya – just as anywhere else – is recognising that it’s a complex phenomenon subject to multiple influences. A better understanding of these primary causes can help you navigate the landscape of Kenya’s economy with greater insight and foresight.

The Effects of Inflation on the Kenyan Economy

When inflation rises in Kenya, it tends to send ripples throughout the economic landscape. As a Kenyan citizen, you should understand what these ripples bring about. The most observable among them is the decline in purchasing power. But, your money doesn’t take you as far as it used to– everyday items may seem more expensive because your currency is worth less.

But that’s far from all. More than these immediate effects on consumer behaviour, inflation can impact investment, economic sectors, and overall economic growth more intricately.

The Impact on Investment 

First off, inflation can make it riskier for Kenyan people (both individuals and businesses) to invest in the country. That’s because inflation tends to erode the actual returns on investment. For example, if the inflation rate is higher than the rate of return on investment, the net return on investment might be negative.

Likewise, inflation can increase the cost of borrowing, which discourages investment in Kenya. Interest rates – the ‘price’ of borrowing – often trend upwards with inflation. That means businesses may find it more challenging to secure loans and, ultimately, to grow.

Inflation’s Effect on Different Economic Sectors 

Then, there’s the variance in how inflation affects different sectors of the Kenyan economy. Some industries can pass the increased production costs (due to inflation) on to the consumer. But others may not be so lucky. Sectors like Healthcare and Education, for instance, may find it detrimental to hike their prices alongside inflation rates.

Economic Growth and Inflation 

Over the long term, inflation can stencil a more sombre picture of Kenya’s economic growth story. High rates can breed uncertainty, fostering a volatile economy that discourages long-term planning and investment. That volatility can, in turn, stifle the nation’s economic growth.

But it’s crucial to remember that not all inflation is harmful. A manageable and predictable inflation rate can signal a healthy, growing economy. It encourages spending and investment – ultimately driving growth. So, while you, as a Kenyan resident, must be alert to the potential damages of inflation, it’s worth noting inflation is not inherently detrimental. It’s all about balance.

The responsibility of managing inflation lies heavily with Kenya’s Central Bank. They employ various monetary policy tools to keep inflation rates within an acceptable range, providing a conducive environment for stable economic growth. But as a citizen, understanding inflation’s impacts empowers you to make informed decisions about spending, saving, and investing.

The Current Inflation Rates and How Have They Changed Over Time

Understanding the current inflation rates and their evolution over time offers illuminating insights into Kenya’s economic landscape. Remember that inflation signifies the rate at which the general level of prices for goods and services is ascending and, subsequently, purchasing power declining over time. 

Let’s acquaint ourselves with recent inflationary trends:

Over the past few years, Kenya has experienced broadly stable inflation. While there have been a few peaks and troughs, the general scenario remains largely balanced, with an average annual rate of around 5%. 

Historical data indicates some distinct inflationary periods when assessing longer-term changes. The 1990s and early 2000s were marked by high inflation rates, with numerous double-digit increases. By contrast, the past decade has seen a relative stabilisation. This difference can be attributed to improved economic policies, increased financial stability, and a stronger focus from Kenya’s central bank on controlling inflation. 

Now, if we turn our heads towards recent months…

1. September 2024: 3.6%
2. October 2024: 2.7% (record low)
3. November 2024: 2.8%
4. December 2024: 3.0%
5. January 2025: 3.3%

While global events such as the COVID-19 pandemic have continued to influence inflation rates, affecting factors like supply chains and consumer spending, these recent figures demonstrate a slight uptick in prices.

A discerning eye on these trends can assist you in planning, investing and responding to economic changes more efficaciously. Conversely, it’s important to remember that economic conditions can change just like the weather. Keeping current on commercial trends can provide useful insight and assist in making better-informed economic decisions.

Knowledge about the inflation rate and its historic changes equips individuals to understand the economic environment they are operating in, plan for future expenditures, invest wisely and make informed financial decisions.

How Does Inflation Impact the Cost of Living?

As an individual living in Kenya, understanding how inflation impacts the cost of living is crucial. Inflation refers to the rate at which the general level of prices for goods and services rises, eroding purchasing power. But what exactly does that mean for your day-to-day life? 

Let’s break it down:

• Purchasing power: The first thing you’ll notice during inflation is that your money doesn’t go as far as it once did. In other words, your purchasing power is reduced. If inflation is 5%, for instance, you’ll need 5% more money to buy the same goods or services you purchased one year ago.
• Lifestyle changes: As the cost of goods and services increases, you may find yourself making adjustments to your lifestyle. You might redirect your spending towards necessities, causing a drop in what is available for other expenditures. That can reduce your overall quality of life.
• Income squeeze: Your income needs to keep pace (often not the case), or else you might feel the financial squeeze. That is especially true for fixed-income earners, like retirees relying on a pension, who may find their income insufficient to cover their standard living costs.

But not everything associated with inflation is negative. In some economically complex scenarios, mild inflation might push businesses to increase wages and incite economic activity. However, it’s a delicate balance. 

Here is what happens in these cases: 

1. The increase in wages because of inflation could, in turn, increase disposable income and consumption.
2. This increase in consumption not only balances out the decrease in purchasing power but also stimulates economic activity.
3. More business activity can further raise wages and increase employment opportunities.

In conclusion, understanding inflation and its impact on the cost of living helps us manage our finances better. It allows us to make better saving and investment decisions, ensuring a secure financial future.

Disclaimer: This blog post is for informational purposes only. For legal and financial advice, consult a qualified professional.