KAMPALA: The Ugandan shilling weakened against the dollar on Wednesday, hurt by thin dollar inflows, and traders said the local currency will come under more pressure if the government raises taxes to plug a huge budget deficit.
At 0953 GMT commercial banks in Kampala quoted the currency of east Africa's third-largest economy at 2,575/2,585, compared with Tuesday's close of 2570/2580.
Bank of Uganda (BoU) was on Wednesday due to release results of a Treasury bond auction worth a combined 100 billion shillings ($39 million) of 3- and 10-year tenures.
"The inflows are weak and I don't think the bond auction has helped much because the 10-year bond is very illiquid and hasn't probably attracted foreign investors," said David Bagambe, trader at Diamond Trust Bank.
The finance ministry earlier this week projected a 93 percent drop in direct budget support from foreign donors in fiscal 2013/14, with tax hikes on telecommunications services and fuel touted as the best way to balance the budget.
"The outlook for the shilling in the medium and long term is really negative because plans to raise taxes have the potential to dampen inflows of foreign investment," said Bagambe.
Bagambe added that the drop in aid was also likely to prompt the central bank to resort to the domestic foreign exchange market to buy dollars to build up foreign currency reserves, potentially adding to the pressure on the shilling.
"The next major factor that will determine the health of the shilling is whether and when BoU can resume rate cuts," said a trader at a leading commercial bank.
"If we a get a rate cut soon, at a time when aid problems have already diminished confidence, then the shilling could be in big trouble."
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