Contrary to the impression the chattering masses might create, the Bank of Uganda’s decision to raise its Central Bank Rate (CBR) to 12 per cent is neither shocking nor unprecedented. We have been here before, and history offers a lesson: the way out is fiscal discipline, not populist concessions that postpone the pain and make the eventual adjustment more expensive.
Inflation,
caused when demand outstrips supply, is not just a number. It erodes purchasing
power, discourages productive investment and can reward speculation over
production.
Uganda introduced the CBR in July 2011 as part of its shift towards inflation targeting. Inflation was surging and the shilling was weakening. The central bank raised the rate from 13 per cent to 23 per cent by November, as inflation reached around 30 per cent, levels last experienced in 1992.
The CBR
influences how commercial banks price loans, alongside their funding costs,
operating expenses and assessment of borrower risk. When the CBR rises,
borrowing generally becomes more expensive. Businesses pay more for working
capital and investment finance, while households face higher loan costs. The
intention is to moderate spending and credit growth, ease inflationary pressure
and help stabilise the currency.
The rate
subsequently fell as conditions improved. It was cut during the Covid-19
pandemic to support activity, then held at 9.75 per cent from October 2024
until this latest increase. On October 14, 2026, the Bank of Uganda raised it
by 2.25 percentage points, citing the weakening shilling, rising oil prices and
the risk of imported inflation.
The familiar
squeeze
Uganda needs
dollars for fuel, machinery, medicines, industrial inputs and consumer goods.
Higher international oil prices increase the import bill, while depreciation
means importers need more shillings to buy the same quantity of dollars.
Transport, manufacturing, agriculture and distribution become more expensive,
with costs passed on to consumers.
Foreign-exchange
inflows also face headwinds. Reduced development financing has disrupted NGO
programmes, employment and procurement. The precise amount of foreign exchange
lost through funding withdrawals and the suspension of civil society
organisations remains unclear, but fewer grant-funded dollars circulating
through local salaries and suppliers can weaken economic activity.
Higher interest rates may moderate credit growth and import demand, encourage investment in shilling assets and signal a commitment to price stability. But they cannot manufacture dollars...
There is
another possible consequence worth watching: government borrowing costs. If the
rate increase helps slow the shilling’s depreciation, investors may find
shilling-denominated government securities more attractive. If the pressure on
the currency persists, government may have to offer higher returns to attract
sufficient demand for its bonds.
A rise in
bond yields is therefore possible, although not automatic. Existing bonds have
fixed coupon rates; their market prices and yields adjust as demand changes.
New issues may need to offer more competitive returns. Higher yields could
attract investors towards shilling assets and support demand for the currency,
but the effect depends on confidence, inflation expectations and the
availability of foreign exchange. It also means government could pay more to
borrow.
Kenya's
fuel-subsidy lesson
Kenya offers
a warning about shielding consumers from every increase in fuel prices.
Following Russia’s invasion of Ukraine in 2022, international oil prices
surged. Kenya subsidised fuel to cushion households and businesses, but the
subsidy bill grew and delayed payments to oil marketers contributed to supply
shortages.
When Kenya removed its petrol subsidy in September 2022, petrol prices rose by about 13 per cent in a month, with diesel and kerosene also becoming more expensive. The adjustment was painful, illustrating the difficulty of withdrawing support after consumers have become accustomed to artificially restrained prices...
The lesson is
not that governments should abandon households to global price shocks. It is
that suppressing price signals for too long accumulates fiscal costs and can
make the eventual adjustment more abrupt. Gradual, transparent price movements
give households and businesses time to adapt. Targeted support for the most
vulnerable is preferable to an open-ended subsidy for everyone.
Resist the
populist temptation
Uganda should
be wary of proposals to remove taxes on fuel simply to bring down pump prices.
Fuel taxes finance public services and infrastructure. Removing them without
replacing the revenue or cutting expenditure widens the fiscal deficit.
Government must then borrow more, cut spending elsewhere or accept a larger
financing gap.
More
borrowing can compete with businesses for credit and put pressure on interest
rates, undermining the central bank’s efforts. Cheaper fuel may also encourage
consumption of an imported product when foreign exchange is already under
pressure.
Relief should
be targeted, affordable and transparent. Protecting vulnerable households is
not the same as subsidising fuel consumption for everyone.
Discipline is
the way through
Government
must prioritise expenditure, improve revenue collection and manage borrowing
carefully. The private sector must improve efficiency and expand exports.
Uganda needs to earn more dollars through coffee, tourism, minerals,
manufacturing and other productive activities.
We have been here before. The way through is to maintain fiscal discipline long enough for imbalances to ease, rather than trade long-term stability for short-term applause.
Ugandans
deserve relief from rising costs. But relief that leaves the country with less
revenue, more debt and a larger foreign-exchange bill may simply make
tomorrow’s adjustment more painful.
The shilling will not be defended
by subsidising imported consumption. It will be defended by living within our
means, earning more foreign exchange and resisting the temptation to postpone
difficult decisions.
