Concerns over foreign exchange swings and political risk have placed investors on edge as members of the infant East African Community (EAC) grapple with internal and external threats to increased cross border investment.

As the region reels from Sunday's terrorist attacks in Kampala, the susceptibility of the East African currencies to shocks is a stark reminder of the rocky path ahead of a seamless economic trade bloc.

At a time when the EAC member countries -- Kenya, Uganda, Tanzania, Burundi and Rwanda -- are studying the options for an East African Monetary Union, politics is set to take centre stage with investors likely to adjust risk premiums upwards.

"There could be challenges along the path of integration, the EAC protocol is a workable and beneficial concept that could help accelerate economic growth," says Peter Wachira, senior investment manager at Pinebridge Investments.

The commencement of the EAC common market protocol frees up the movement of capital, goods, and labour in a region of 126 million people and a combined output of $73 billion.

EAC member countries accounted for 52.5 per cent or Sh90 billion worth of Kenya's exports in 2009, making neighbours the most crucial destinations for Kenyan goods and services.

Although the EAC member states exports account for 12.1 per cent or Sh12 billion worth of goods and services to Kenya, the economic opportunities are expected to open up for smaller economies.

A politically charged environment hit the currency trading markets in the aftermath of the post-election violence, moving to unsettle the rhythm of a steadily strengthening shilling resulting in a 16 per cent drop within a three week period.

This rendered businesses and institutions that operate or obtain funding in foreign currency unable to assess foreign exchange risks, exposing them to massive losses arising from adverse currency movements.

Although less charged than the December 2007 general election, Kenya is yet again at the threshold of a pivotal political event.

The country is headed for a referendum on the proposed constitution on August 4, with market observers taking a cautious approach towards the unfolding political events.

Tanzania and Rwanda are headed for a general elections this year, with an increasing spate of political clamp-downs on opposition parties in Rwanda pointing to the sensitive environment that the regions' most promising economy is facing.

And as Uganda mulls over its foreign policy strategy in Somalia, Burundi faces an almost similar concern with Islamic extremists sending out warnings over the country's military presence in troubled Somalia.

The acid test for EAC member states will be the delicate balance of internal political uncertainties and regional security threats while keeping in mind the regional investment interests.

In the second quarter of the year, the Kenya Shilling declined by 5.7 per cent against the US dollar while the Uganda and Tanzania currencies declined 8.9 per cent and 9.6 per cent respectively.

But without a converged monetary system, foreign exchange and currency risks as well as double taxation remain huge stumbling blocks to cross border trades.

Although the adoption of a common currency could reduce investors' exposure to exchange rate risks, such a move is far from being adopted in the East African community.

And in the absence of hedging instruments, investors will have no option but to take both interest rate and foreign exchange risk when they seek out investments in the region.

Earlier, Kenya and Uganda negotiators for regional integration had urged that the legal requirements of a full transfer of monetary sovereignty to the regional level carry the danger of exposing their countries' financial sectors to external shocks.

An earlier report on the creation of a monetary union by the European Central Bank had suggested two strategies; keeping the monetary union as an aim with no public time-frame or partner states committing themselves to a firm date for the start of the union.