Kenya plans spending boost

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Announced in June and effective from July, a KSh2.1trn ($20.5bn) budget marks Kenya’s largest to date, with planned expenditure up by about 18% on funds allocated in the previous fiscal year.

A number of sectors will benefit from the increased spending, and infrastructure and energy are key recipients for FY2015/16, receiving up to 18% of the total budget allocation. Other areas flagged for additional support include security, tourism, education and agriculture.

However, while higher spending will be supported in part by increased tax revenues – which are up 13% on 2014 levels, surpassing the KSh1trn ($9.8bn) level for the first time – the budget still faces a shortfall equivalent to 8.7% of GDP. The deficit is nearly one full percentage point higher than in the government’s FY2014/15 budget.

The government has noted that the deficit would be nearly 25% lower if capital spending for the planned Mombasa-Nairobi railway were excluded, but the question of bridging a significant shortfall remains.

“Financing the budget has been a pertinent question raised as revenue projections for FY2015/16 is pegged at KSh1.36bn ($13.3bn), amounting to 20.8% of GDP. A key component that the government shall use in plugging the infrastructure gap would be through the use of public-private partnerships (PPPs) in project implementation,” said Kevin Tuitoek, research analyst at Genghis Capital, in a budget report.

The local and international markets may well prove to be an avenue for sourcing additional funds, following the government’s successful debut $2bn eurobond in 2014. However, growing macroeconomic headwinds, including a depreciating currency, a rising GDP-to-debt ratio and a recent downgrade by international credit rating agency Fitch, could present additional challenges and raise the cost of borrowing for the government.

Managing the headwinds

The new budget comes at a time when Kenya faces macroeconomic obstacles, most notably its currency, which has depreciated by 13% against the dollar from January to July. The Central Bank of Kenya has undertaken several efforts to prop up the shilling, including raising interest rates by 300 basis points over the past few months to 11.5%, although a strengthening US economy may continue to put downward pressure on emerging market currencies, including the shilling.

The government also has to contend with Fitch’s decision in July to downgrade its credit rating for Kenya from “B+” to “BB-”. The ratings agency noted that Kenya’s public finances had been “deteriorating steadily since 2008, reflecting weak revenue performance, increasing infrastructure spending and persistently high current expenditure”. Fitch also expressed concerns over the country’s foreign direct investment levels, which remain lower than those of Kenya’s continental peers, leading to an overreliance on short-term funding and debt financing.

However, Fitch acknowledged that current debt levels were sustainable and that increased spending on major infrastructure projects would likely support strong GDP growth in the range of 6% over the next five years.

Sustainable growth

In fact, while funding the deficit will be a challenge, the government’s spending is largely directed to high-multiplier sectors, including security, energy and infrastructure.

Infrastructure remains a priority in the budget thanks to several projects including the construction of a standard-gauge railway connecting Mombasa to Nairobi, alongside plans to build 10,000 km of new roads in five years. The roads will be funded under a PPP framework.

For energy, targeted spending for the sector reflects the government’s plans to add 5000 MW of capacity by 2017 and improve the transmission and distribution network throughout the country, especially in rural areas. Education − another major recipient – will receive around 15% of total spend.

Concerns about national security in Kenya, which are weighing on investment and visitor numbers, have led to a 13% year-on-year (y-o-y) rise in total allocations for national security bodies to KSh223.9bn ($2.2bn). Overall, 5% of the budget has been set aside for measures aimed at restoring confidence in the country.

In addition, the new budget allocates KSh5.2bn ($50.8m) for the recovery of the tourism sector, with the extra funding to be used to market Kenya in both traditional and untapped markets.

Tourism has traditionally served as one of Kenya’s largest foreign exchange earners, but security threats and travel advisories issued against the country led to an 11.1% y-o-y drop in international arrivals in 2014 according to official data released in May. A further contraction is expected in 2015, after figures for the first five months of the year showed arrivals down 25% y-o-y.

Tourism principal secretary Ibrahim Mohamed said he was confident that the industry would fully recover over the next two years. “We have gone through the bad part and we have done what it takes to curb insecurity, which was our main drawback,” he said in July. “We are also marketing Kenya using these gains and we have already seen travel advisories being removed by Britain,” he added.

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