By Ephraim Njega
Kenya’s economy is facing turbulent times. Everywhere you turn these days, it is impossible not to find people discussing the status of the economy. The government has been experiencing a liquidity crisis for some years. The cash crunch manifested itself in the form of pending bills and delayed disbursement of cash to county governments.
The liquidity crunch remained hidden to many Kenyans. However, recent revelations that the government has delayed paying March salaries have brought these challenges to the fore. It is no longer a secret that the government is broke. The denials we were once used to are gone. Instead, they have been replaced with blame games as to who is responsible for the situation we find ourselves in.
The joke in town is that the political class are not willing to talk the liquidity crisis, and are mainly driving their agenda. This leads to blame games, which are generally politically expedient, but are very harmful to the economy because they only create a rich environment for speculative activities in the market.
This makes it hard for the government to borrow money. When investors know the government’s fiscal situation is in dire straits, they will ask for higher interest as a compensation for the enhanced risks. In times like these, what the markets need is the assurance that those in charge not only admit the reality, but fully understand, and are willing to do whatever it takes to remedy the issues.
How we got where we are
Over the last decade, we have consistently run a very high budget deficit in the range of 7 to 8% of Gross Domestic Product (GDP). A budget deficit arises when government’s spending is higher than its revenues. The government addresses the budget deficit by borrowing to cater for the expenditure which cannot be met by revenues.
By running an unsustainable budget deficit, we ended up borrowing too much too fast, hence the depletion of the borrowing capacity. During the late former President Mwai Kibaki’s ten-year tenure, the government borrowed a total of Sh 1.3 trillion. On the other hand, the Jubilee administration borrowed a total of Sh 6.8 trillion up to August 2022 when former President Uhuru Kenyatta left office last year. The total public debt at the time each of the past four presidents left office is as illustrated below;
The greatest puzzle many find hard to unravel is on the use to which all the borrowed money was put to. If the money was invested wisely, it would have led to economic growth. This would in turn have resulted in higher revenues hence easy repayment of the country’s overall public debt which is currently at Sh9.2 trillion.
Most of the borrowed money during Uhuru’s tenure was used in recurrent spending or looted through exorbitantly priced (big) infrastructure projects. And, many of those projects were vendor driven and had no clear economic benefits for the country. The economic dividend that ought to have been realised from those projects only accrued to the “tenderpreneurs”. It is during Jubilee’s administration that the term tenderpreneurs became part of our economic dictionary.
When you borrow money, two obligations arise. One is to pay the principal borrowed and the other is to service the interest. The interest part of the debt is paid using tax revenues. You can’t borrow money to pay the interest as that would amount to borrowing to fund recurrent spending. The principal part of the debt is usually funded by borrowing. This is called refinancing.
Once you deplete your borrowing capacity, it becomes increasingly hard to borrow money. High perceptions of debt vulnerability and risk of default scares creditors. Refinancing the principal amount only works if you can manage to borrow whenever debt matures. If you are unable to borrow to repay maturing debt, the only options left is either to default, or use tax revenues to pay up. Theoretically, you could print money to repay maturing domestic debt, but that would turn a bad situation into a catastrophe.
Uhuru’s tenure was characterised by low interest rates. In the US, president Trump was never a fan of high interest rates. The low interest rates led to easy availability of cheap money globally. The government also capped domestic interest rates in 2016. In an environment awash with cheap money, the government could borrow a lot of money without getting into trouble.
After the COVID19 pandemic and the Russia-Ukraine war, inflation rose across the globe. This led to monetary authorities raising interest rates. Central banks raise interest rates to contain inflation. Cheap money fuels inflation. To quell that fire, you make money expensive.
The fading of the tide of cheap money has exposed those who were celebrating when the global economy was flooded with cheap money. Locally, the end of interest rate capping in 2019 also meant the era of cheap domestic borrowing was gone.
Under the current circumstances, the government is struggling to raise the money for debt refinancing. Furthermore, the interest rates are high meaning that the government is refinancing cheaper debt with expensive debt. This will lead to higher debt interest in the future.
Why the years ahead will be difficult
The government is experiencing an extremely high debt servicing burden. During the financial year ended June 2022, it spent Sh 578 billion on interest expense. This represents 26% of total revenues. Compare this with the financial year ended June 2013 when the government spent Sh121 billion on debt interest expense representing only 15% of total government revenues.
During the first eight months of the current financial year the government has spent Sh 447 billion on debt interest expense representing 31% of total revenues. This translates to Sh 56 billion debt interest expense every month. If the trend continues, we will have spent Sh 671 billion on debt interest expense at the end of the current financial year which ends in June 2023. The figure below shows the build up in debt interest expense over the years;
These are scaring numbers considering I am just addressing the interest part of the debt servicing burden. When you add the principal, the government is budgeting to spend about Sh 1.4 trillion on debt. If the government cannot refinance the principal due to the reasons discussed above, it could spend 70% of tax revenues on debt servicing.
Considering the tax revenues amount to about Sh 2 trillion per year, it means that after serving the debt, the government would be left with only Sh 600 billion to spend. This wouldn’t even be enough to fund the national government’s wage and pensions bill which in the last financial year came in at Sh 642 billion.
At this point, the government has exhausted its revenues yet there is still national government’s operations and maintenance budget, national government’s development spending and county government transfers all totalling up to Sh 1.6 trillion. Therefore, if the government were unable to borrow to refinance debt it would be left with Sh 1.642 trillion of unfunded expenditure. This would mean zero spending on national government’s operations and maintenance, zero spending on national government’s development, zero transfers to county governments and Sh 42 billion of unpaid salaries and pensions.
In simple terms, the operations of the government would grind to a halt. The government would only manage to fully service public debt and partially pay salaries and pensions. We are facing an imminent collapse of the economy unless something is done. The government is the single largest buyer of goods and services in the economy. If it cannot spend, the economy will suffer. If it cannot pay, workers loans will be left unpaid destabilising the financial sector. The contagion will run wide and wild. The figure below shows the status of government’s finances as at March 31, 2023. It clearly paints a picture of the tightening fiscal space.
Our situation is worsened by the deteriorating profile of government debt. We have a greater portion of our public debt made up of external debt now than we did in 2013. In 2013, external debt comprised 42% of total public debt but today it is at 50%. This exposes us to a lot of forex risks. Every time the shilling loses by one unit to the dollar we incur Sh 38 billion more debt without borrowing an extra shilling. If the shilling continues to depreciate, we are going to rake in trillions of additional debt without any further borrowing.
The current debt is also more expensive than in the past. In 2013 we only owed Sh 57 billion worth of expensive external commercial debt. Our external debt then was mainly made of up of concessional borrowing from bilateral and multilateral sources. As at June 30, 2022, the expensive external commercial debt stood at Sh 1.2 trillion representing a 1,955% growth over the last ten or so years.
The maturity profile of the debt has also taken a turn for the worse. We have $2 billion worth of Eurobonds to be settled in the coming financial year. Domestically, we will be having a bond maturing every month. It will be hard to keep pace with this debt servicing demand.
The government has been living large on borrowed money. The mistakes of the past have caught up with us. We need to take measures to restructure existing debt to ‘reprofile’ it in terms of maturity and interest expense. The government should engage the International Monetary Fund for funding to settle maturing external debt while engaging the creditors to offer some concessions.
The source of debt is budget deficit. Having exhausted borrowing capacity, any further borrowing will just hasten the path to economic ruin. This will take years to reverse. The government should cut its spending to match available revenues. The only borrowing we should entertain is for refinancing purposes.
The taxation capacity is also depleted. The government needs to come up with a tax policy which encourages production and economic growth. We need fewer and lower taxes.
Ultimately, we need to return the economy to a path of robust growth. This will result in increased tax revenues thus restoring the fiscal space the government so badly needs.
Writer is a business and development consultant. He is also an experienced business and economic analyst, who holds an MBA Degree from the University of Nairobi.