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Kenya’s economy on sound footing in 2019: Thanks to the political stability

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After a year that began on the wrong footing due to divisions over the hotly contested and controversial 2017 presidential polls, 2019 could bring with it better economic growth prospects.

Among the key issues that could shape economic conversations and the lives of Kenyans this year are whether a law on interest rate caps will be repealed, the national census, a new currency, and the political climate.

This positive outlook could, however, be affected by the high-octane politics that is gaining momentum – specifically a referendum and 2022 succession politics that could hamper the country’s economic growth.

But with the World Bank having projected Kenya’s economy to hit 6.01 per cent this year from 5.475 per cent recorded in 2018, the Government is upbeat about the oncoming economic prospects.

“Our growth outlook at around six per cent remains stable and so are other macroeconomic indicators like inflation, interest rates, and the currency exchange rates,” Treasury Cabinet Secretary Henry Rotich averred.

“We will continue to monitor the global developments especially trade wars, Brexit, commodity prices and US monetary policy and take appropriate actions to mitigate any negative consequences to our growth,” he said.

Since Uhuru Kenyatta became president, the highest rate at which Kenya’s economy has grown in a year was 5.9 per cent in 2016 and 2013, when Mwai Kibaki retired.

 

Remittance inflows

This year’s growth could be supported by strong remittance inflows and rising household income from agriculture and lower food prices.

“Manufacturing is still recovering and its activities remain sluggish. The sector growth rose from 0.5 per cent in 2017 to 2.7 per cent in 2018, but still remains weak compared with a three-year average of 3.6 per cent over 2013 to 2016,” said the World Bank recently.

Among the key drivers of growth this year will be an improved business environment as well as the easing of the political climate, underpinned by strong agricultural output and a good performance by the service sector.

Further, the Bretton Woods institution projects that with interest rates capping and banks leaning towards government securities, credit is unlikely to grow, especially for small enterprises.

This view has also been shared by the Central Bank of Kenya (CBK) which has consistently said that the ceiling on interest rates charged by banks was denying entrepreneurs access to credit which is stifling economic growth.

However, according to a survey released last week by research firm Trends and Insights for Africa (Tifa), four out of 10 Kenyans, or 44 per cent would like to set up a business next year while 32 per cent will be scouting for jobs.

The drafters of Vision 2030 had insisted that for Kenya to be a medium income economy, its GDP was supposed to grow by more than seven per cent annually for two decades.

If the political environment remains stable, Kenya’s economy will for the first time in a decade hit a six per cent growth rate in 2019. Industry leaders are however afraid that all this could be wiped out by the unpredictable operating environment.

“2019 promises to be a strong year for the sector, specifically if the predictable and stable business environment can be guaranteed in policy formulation and implementation,” Kenya Association of Manufacturers Chief Executive Phyliss Wakiaga revealed.

On the bright side, previous economic growth numbers show that Kenya’s economy has in the last two decades grown its fastest in the second year after a presidential election.

The growth, however, starts to decline in the third year as another election approaches.

In 2004, just a year after Mwai Kibaki had been elected as president Kenya’s economy grew by seven per cent. In 2010 it rebounded to 8.4 after the peace deal between Kibaki and his political nemesis Raila Odinga in the 2007 elections that led to the grand coalition government.

Then in 2015, year after Uhuru had been elected for his first term it hit 5.9 per cent. Thanks to the handshake between Uhuru and Raila, Kenya’s business climate has stabilized, though still struggling in some sectors such as mining which remains on the growth path.

In all real GDP grew an estimated 5.9% in 2018, from 4.9% in 2017, supported by good weather, eased political uncertainties, improved business confidence, and strong private consumption. On the supply side, services accounted for 52.5% of the growth, agriculture for 23.7%, and industry for 23.8%. On the demand side, private consumption was the key driver of growth. The public debt–to-GDP ratio increased considerably over the past five years to 57% at the end of June 2018. Half of public debt is external. The share of loans from non-concessional sources has increased, partly because Kenya issued a $2 billion Eurobond in February 2018. An October 2018 International Monetary Fund debt sustainability analysis elevated the country’s risk of debt stress to moderate.

A tighter fiscal stance reduced the fiscal deficit to an estimated 6.7% of GDP in 2018, with the share of government spending in GDP falling to 23.9% from 28.0% in 2017. To stimulate growth, the Central Bank of Kenya reduced the interest rate to 9% in July 2018 from 9.5% in May. Nonetheless, a law capping interest rates discourages savings, reduces credit access to the private sector (especially small and medium enterprises), and impedes banking sector competition, particularly by reducing smaller banks’ profitability. The exchange rate was more stable in 2018 than in 2017. The current account deficit narrowed to an estimated 5.8% of GDP in 2018 from 6.7% in 2017, thanks to an improved trade balance as a result of increased Kenyan manufacturing exports. Kenya’s gross official reserves reached $8.5 billion (5.6 months of imports) in September 2018— a 7% increase from a year before.

Tailwinds and headwinds

Real GDP is projected to grow by 6.01% in 2019. Domestically, improved business confidence and continued macroeconomic stability will contribute to growth. Externally, tourism and the strengthening global economy will contribute.

The government plans to continue fiscal consolidation to restrain the rising deficit and stabilize public debt by enhancing revenue, rationalizing expenditures through zero base budgeting, and reducing the cost of debt by diversifying funding sources. Inflation is projected to be 5.5% in 2019 due to prudent monetary policy. Kenya also benefits from renewed political momentum (including the 2010 constitution and devolution), a strategic geographic location with sea access, opportunities for private investors, and the discovery of oil, gas, and coal along with continued exploration for other minerals.

Among downside risks are possible difficulties in making fiscal consolidation friendly to growth and in finding affordable finance for the budget deficit caused by tightening global markets. Boosting domestic resource mobilization and enhancing government spending efficiency are critical to restrain public borrowing.

Kenya continues to face the challenges of inadequate infrastructure, high income inequality, and high poverty exacerbated by high unemployment, which varies across locations and groups (such as young people). Kenya is exposed to risks related to external shocks, climate change, and security. The population in extreme poverty (living on less than $1.90 a day) declined from 46% in 2006 to 36% in 2016. But the trajectory is inadequate to eradicate extreme poverty by 2030.

Kenya’s Big Four (B4) economic plan, introduced in 2017, focuses on manufacturing, affordable housing, universal health coverage, and food and nutrition security. It envisages enhancing structural transformation, addressing deep-seated social and economic challenges, and accelerating economic growth to at least 7% a year. By implementing the B4 strategy, Kenya hopes to reduce poverty rapidly and create decent jobs.

 

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Kenya

Kenya’s Economy to Experience Moderate Slowdown In 2019

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Kenya’s economy entered the year on a less promising note, with weaker domestic demand causing a notable slowdown in private sector activity. That said, a buoyant tourism sector and solid remittance inflows, which have helped narrow the current account deficit, likely cushioned the impact of the decline. Unfortunately, the country aimed to raise up to KES 50 billion (USD 500 million) through auctioning a tax-free 25-year amortized infrastructure bond on 20 March, with proceeds expected to fund the “Big Four Agenda” development projects and the bond was to some extent undersubscribed and resulted to a total of KES 16.3billion bonds accepted by the Central Bank of Kenya (CBK) as against the KES 50billion bonds anticipated.

The government’s appetite for spending, however, is at loggerheads with the need for fiscal consolidation. Reining in the country’s escalating public debt burden is a necessary condition to securing a new IMF standby credit facility; discussions with the IMF are currently underway.

 

Highlights of Kenya’s Economic Performance

  • It is expected that headwinds to growth in private consumption, investment and exports will see Kenya’s economy expand at a slower pace in 2019.
  • The ongoing cap on bank lending rates – which will continue to dampen credit growth – and rising inflation will constrain growth in private investment and household consumption.
  • Public investment directed under the ‘Big Four’ agenda will support GDP growth, but is likely to fall short of government expectations.
  • Moreover, export growth is likely to decelerate in 2019 due to reduced production of tea, the country’s main export.
  • It is forecasted real GDP growth of 5.2% will be experienced in 2019 and 5.5% in 2020 respectively, down from an estimated 5.8% in 2018.

 

 

Subdued Credit Growth to Hurt Trade Sector and Households In 2019

It is expected that the harmful banking sector regulations and rising inflation will temper the pace of growth in private investment and private consumption in 2019. Credit growth will continue to be constrained by an interest rate cap introduced in 2016, which limits bank lending rates to 400 basis points above the central bank policy rate. It is forecasted credit growth will remain in single digits in 2019, growing by 7.5% by year-end, compared to a 2010-2015 year-end average of 20.4% (prior to the cap).

This will continue to affect business investment in the wholesale and retail trade sector (the largest recipient of private credit) as well as private consumption, given that household credit represents the second largest share of total private credit. Moreover, these effects will be compounded by an acceleration of inflation to a forecast of 6.0% in 2019 from 4.7% in 2018, given normalizing weather conditions which are likely to boost food prices. It is expected rising inflation will further weigh on private investment and consumption growth in 2019 by increasing firms’ input costs and weakening households’ purchasing power.

 

Meanwhile, public investment as a driver of growth will fall short of the government’s ambitions. It is noted that overall, fixed investment in 2019 will benefit from a healthy infrastructure project pipeline, which includes the Standard Gauge Railway (Phase 2A) and the Lamu Port, scheduled to reach completion in 2019 and 2020 respectively. A forecast on the construction sector is expected to grow at a robust 8.6% in 2019, from 7.5% in 2018, to then tail off from 2020 given project completions.

Public investment will also be directed under President Uhuru Kenyatta’s ‘Big Four’ agenda, which aims to boost healthcare coverage, affordable housing, food security and the manufacturing sector. That said, we believe that implementation of the agenda’s objectives will face structural constraints stemming from administrative inefficiencies and funding shortfalls.

Moreover, several tax measures introduced in the 2018/19 fiscal budget to fund the various programs encountered resistance from lawmakers, including a value-added tax on fuel that was imposed at half the initially proposed rate (8.0% instead of 16.0%). Therefore, it is believed that public spending under the Big Four agenda will have a lesser impact on growth than the authorities expect.

Lower Tea Output to Weigh On Total Export Growth In 2019

Furthermore, weaker tea production is likely to weigh on export revenue growth. In February 2019, the Tea Directorate of the Agricultural and Food Authority estimated a 12.0% y-o-y reduction in tea exports for the full year, owing to lower output in the tea-growing regions of the west. Kenya is one of the world’s main producers of tea, which accounted for 25.6% of total exports in 2018 – the largest share of the country’s export revenue.

Therefore, it is believed that this will drag on total export growth, further contributing to a slowdown in headline growth. Moreover, it is highlighted the possibility that normalizing weather conditions after favorable agricultural yields in 2018 could also weigh on production growth of horticultural goods, the second largest export component (accounting for 19.5% of Kenya’s exports), posing further downside risks.

 

It is believed that risks are tilted firmly to the downside. Kenyatta’s inability to push many economic policies through parliament have in the past hampered implementation of key initiatives, including proposals to remove or modify the interest rate cap on commercial banks. It is believed that, should Kenyatta’s position weaken further, this could slow policy-making and progress on the Big Four agenda. Moreover, weaker-than-expected global economic activity could see the return of risk-off sentiment to financial markets and renewed pressure on emerging market currencies later in the year (although it is stressed that this is not a core view).

Since more than half of Kenya’s government debt (which stands at 61.3% of GDP) is denominated in foreign currency, pressure on the Kenyan shilling would significantly increase debt servicing costs, posing further headwinds to public investment and clouding the country’s short-term growth outlook.

While risks are weighted to the downside, it is to be noted that the removal of the interest rate cap on commercial banks in 2019 would pose an upside risk to our view. Indeed, on March 14 2019 a Kenyan court ruled that the cap is unconstitutional, though judges suspended the implementation of the ruling for 12 months to allow legislators to review the law.

 

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