Emerging

Better macroeconomic stability

EcoEmerging// 2nd quarter 2019  
22  
economic-research.bnpparibas.com  
Kenya  
Better macroeconomic stability  
After the appeasement of political tensions in the aftermath of the presidential election rerun, the improved political environment  
has led to a stabilization of Kenya’s macroeconomic situation. The president's "Big Four" agenda for boosting growth and  
development spending will shape economic policy during the next five years. But the Kenyan sovereign still faces the serious  
challenges of fiscal consolidation and the high government debt level that weighs on investors appetite for risk. In the meanwhile,  
the recent High Court suspension of the contentious policy issue of an interest rate cap on bank lending should probably speed up  
a further agreement with the IMF, which is vital to reduce the borrowing cost burden in a context of increasing financing needs.  
Buoyant growth, low inflation and stable currency  
1-Forecasts  
Kenya's economic growth has strengthened thanks to receding  
political tensions after the prolonged 2017 election cycle. Moreover,  
the new Kenyatta government has outlined four major priority areas  
for development over the next five years in order to increase  
growth potential and create a middle-income economy.  
2017  
2018 2019e 2020e  
Real GDP growth (%)  
4.9  
6.0  
6.1  
6.2  
Inflation (CPI, year average, %)  
Cent. Gov. balance / GDP (%)  
Cent. Gov. debt / GDP (%)  
8.0  
5.0  
5.6  
5.0  
1
-8.5  
-6.8  
-6.3  
-5.0  
57.6  
-6.3  
58.5  
-5.7  
59.6  
-5.4  
58.0  
-5.1  
Current account balance / GDP (%)  
External debt / GDP (%)  
According to the National Bureau of Statistics estimates, during the  
third quarter of 2018, real GDP growth reached 6.0%, compared  
with the low point of 4.7% in Q3 2017. The recovery in 2018 was  
driven by the strong performance in the agricultural sector (+6% y-o-  
y in the first nine months of 2018) due to improved weather  
conditions, resilient growth in the services sector (+7% y-o-y) and  
the rebound in activity in the manufacturing sector (+2% y-o-y)  
coming from stronger electricity and water supply.  
33.4  
7.3  
35.4  
8.2  
36.1  
8.7  
35.2  
8.8  
Forex reserves (USD bn)  
Forex reserves, in months of imports  
Exchange rate USDKES (year end)  
4.5  
4.9  
5.2  
5.2  
103  
101  
103  
104  
e: BNP Paribas Group Economic Research estimates and forecasts  
2
- Manufacturing rebound and resilient services growth  
The easing of political uncertainty has restored confidence in the  
economy, as evidenced by the greater stability of the shilling. The  
stability of the Kenyan shilling (KES) firstly is due to the narrowing of  
the current account deficit, itself the result of improved receipts from  
services, strong inflows from tea and horticulture exports and  
resilient diaspora remittances, which have compensated the  
increased dollar demand for manufacturing and energy imports.  
Moreover, it reflects the strong direct investment inflows which  
reached USD 925 million in 2018 (1.3% of GDP, +38% y-o-y).  
GDP, quarterly contributions %  Agriculture  Industry  Services  
7
6
5
4
3
2
1
0
Hikes in tariffs on power in mid-2018 and tax rises imposed in  
September of that year put upward pressure on energy costs at  
end-2018, although declines in oil prices provided some relief. The  
inflation rate rose slightly to 4.3% in March 2019 (from the low point  
of 4.0% in August 2018), but favourable rains and broadly stable  
food prices have maintained inflation rate within the central bank’s  
target range of 2.5%7.5%.  
Q1 15  
Q1 16  
Q1 17  
Q1 18  
-1  
Source: National Bureau of Statistics, BNP Paribas  
Low fiscal credibility and high borrowing needs  
Moderate inflation and the stable shilling allowed the central bank to  
ease the monetary policy in 2018, which allowed a slight decline in  
interest rates compared with the same period in 2017 .  
Kenya’s public accounts suffer from low fiscal policy credibility up to  
017 and rising government debt. Budget deficits averaged 8% of  
2
2
GDP in the past five years because of expansionary fiscal policy  
driven by several factors (implementation of the 2010 Constitution,  
elections, drought relief and the large social program planned for the  
implementation of the “Big Four” program throughout the president’s  
new mandate).  
1
In 2018 a significant fiscal adjustment was achieved with the fiscal  
deficit declining to 6.8% of GDP from 8.5% of GDP in 2017. This  
was achieved primarily by reducing development expenditure (by  
The so called “Big 4” agenda includes food and nutritional security, affordable  
housing, increased share of manufacturing, and universal health coverage.  
2
In January 2019, weighted interest rates on commercial bank loans averaged  
2.5% compared with 13.7% in the corresponding period of 2018.  
1
EcoEmerging// 2nd quarter 2019  
23  
economic-research.bnpparibas.com  
2
.7 percent points of GDP) in a context of a significant decline in  
3
- Low inflation and stable KES allow monetary easing  
revenues (15.5% of GDP against 16.3% the previous fiscal year). In  
an attempt to compensate for the decline in revenue, the authorities  
adopted some measures in September 2018 . However, in January  
y/y %  
CB Policy rate  
CPI  
KES to USD  
3
1
4
110  
2019 the Treasury published a draft budget with higher deficit  
targets (6.3% of GDP in 2019 and 5% in 2020 compared with  
previous projections of 5.8% and 4.7% respectively).  
12  
105  
100  
95  
1
0
8
6
4
2
0
The revised deficit targets will translate into higher public debt  
Central  
(
expected to reach 59% of GDP in 2019). Interest payment has  
reduced the fiscal room as they represent 21% of fiscal revenues in  
018 vs. 13% two years earlier. Albeit manageable, this implies  
2
90  
Central Bank's  
inflation target  
more borrowing from both external and domestic sources.  
Domestically, the government announced the issuance of  
KES 50 bn (1% of GDP) in 10 to 20-year Treasury bonds in April to  
finance the 2018/2019 budget.  
85  
80  
2014  
2015  
2016  
2017  
2018  
2019  
The government is also preparing to launch a third sovereign bond  
for about USD 2bn in 2019 (after the first USD 2.75 bn bond issue in  
Source: Central Bank, National Bureau of Statistics, BNP Paribas  
2
014 whose five-year portion of USD 750 million will be repaid in  
June this year and a second bond USD 2 bn issue in February  
018). But the precise timing will depend on market conditions since  
due to structural constraints (such as inadequate provisioning and  
reporting and corporate governance deficiencies) and economic  
headwinds.  
2
risk appetite for Kenyan sovereign risk has deteriorated so far with  
current sovereign spreads rate at 490 compared with 280 at  
beginning 2018. Treasury is looking to roll over maturing debt and  
issue USD 1 bn syndicated loan for new cash. The increasing  
recourse to private borrowing increase both exchange rate and  
refinancing risks.  
De facto, the lending rate cap has reduced the access to credit for  
small businesses as banks prefer to lend to the government and  
large companies leading to a distortion in the credit allocation so far.  
While the legal provision on deposits was removed last year, the  
Nairobi High Court suspended the implementation of the lending  
cap in March 2019 citing unconstitutional sections that disrupt the  
relationships between banks and customers. The law has been  
suspended for 12 months, but loans should continue to be priced at  
the current capped rate to give parliament time to reconsider the  
unconstitutional sections.  
In order to contain external borrowing costs, the government  
recently restarted discussions with the IMF to try to obtain a new  
loan agreement in 2019 after the expiration of the previous IMF  
4
stand-by arrangement in September 2018 .  
Banking sector: improvements in the offing  
During 2018, banksgross loans increased by 5.4%, with about 16%  
for government loans. With average interest currently at 13%  
against 10% rate for government T-bills, growth in credit to the  
private sector remains subdued (+3% y-o-y in January 2019), and  
the banking system’s non-performing loan ratio remains high (12.5%  
in January 2019). Overall liquidity in the system improved thanks to  
a notable rise in gross deposits (+12.6% y-o-y in January 2019).  
One of the policy changes that the IMF has been pushing to reach a  
new agreement has been the removal of the controversial law  
capping lending rates on bank loans . The cap has negatively  
affected lending to small and medium-sized enterprises, although  
private-sector credit was already experiencing decelerating growth  
5
3
The Finance Act 2018 amendments clarify the applicability of the capital gain  
The lifting of the loan-rate cap will certainly increase interest rates  
on lending in the medium term. According to the World Bank, this  
measure may boost private-sector credit through reestablishing of  
lending support (consumer and mortgage loans) to households with  
a positive impact on the private consumption. In the meantime, the  
move could favor and speed up the signature of a credit agreement  
with the IMF.  
tax on insurance companies and expand the definition of deemed dividend’s  
scope. It increases several withholding taxes (bank and phone money transfers,  
bottled water, high capacity petrol and diesel vehicles) and creates new ones  
(on sugar confectionary and internet data services) while a contribution to the  
National Housing Development Fund is now deducted from employees gross  
monthly emoluments.  
4
In 2016 a stand-by agreement of USD 1.6 bn was signed with the IMF. In  
March 2018 the government benefited from a 6-month extension in exchange  
for: i) fiscal consolidation, ii) a better monetary transmission mechanism and iii)  
revocation of the interest cap law. In September 2018, the government was not  
able to secure another extension due to some sticking points like the removal of  
the interest cap law.  
5
The Banking Amendment Act was introduced in September 2016 following  
concerns about banks’ high lending rates. It set the maximum interest rate  
chargeable for a credit facility at no more than four percent of the base rate of  
the central bank and the minimum interest rate granted on a deposit to at least  
seventy percent of the base rate.  
QUI SOMMES-NOUS ? Trois équipes d'économistes (économies OCDE, économies émergentes et risque pays, économie bancaire) forment la Direction des Etudes Economiques de BNP Paribas.
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