In the best of times, public debt eases the domestic constraint on savings, smoothens consumption and finances investment. Investors see it as a risk free return and as a means of portfolio diversification. In the worst of times, it is associated with unsustainability, financial institutions’ collapses, private sector-crowding out, exchange-rate crises and inflationary pressures.
Because resource scarcity lies at the core of any economic analysis, budget constraints concern all economic agents, including the Government. Faced by an increasing demand for better services, more public goods, better infrastructure, a ballooning wage bill, among other factors, governments have increasingly been developing huge budgets that the ordinary government revenues cannot cover. To plug in the deficit, governments turn to other financing methods, most significant being debt financing. The Constitution of Kenya (2010) defines public debt as all financial obligations attendant to loans raised or guaranteed and securities issued or guaranteed by the national government. According to the Constitution, public debt is a charge on the Consolidated Fund.
Public Debt Management
The IMF defines public debt management as the process of establishing and executing a strategy for managing the Government’s debt in order to raise the required amount of funding, achieve its risk and cost objectives and to meet any other sovereign debt management goals it may have set, such as developing and maintaining an efficient market for government securities.
In a broader sense, public debt managers should ensure that government debt is sustainable both in terms of rate and level of growth, and can be serviced under a wide range of circumstances while meeting cost and risk objectives. There is a consensus that prudent public debt management can help economies reduce their borrowing cost, contain financial risk, and develop their domestic debt market. Debt can also facilitate maintaining financial stability and assist countries develop their domestic financial system.
Public Debt Status
Kenya’s public debt has been swelling and the risk of a debt crisis (where the Government is unable to repay what it owes) continues to increase every day. As at end of June 2018, the outstanding total public debt, including publicly guaranteed debt, stood at Ksh 5 trillion (US$50 billion). Domestic debt stood at Ksh 2.5 trillion (US$25 billion) in June 2018 while external debt (including guaranteed debt) increased by 13.0% from Ksh 2.3 trillion (US$23 billion) at end June 2017 to Ksh 2.6 trillion (US$26 billion) at end of June 2018. Domestic and external debt accounted for 49.1% and 50.9% of total public debt respectively at end of June 2018.
The table below shows the trends in Kenya’s total public debt over five years:
There has been a steady growth in public debt over the past five years. The growth is not commensurate with the expansion in the economy over the same period. Using 2014 as the base year, the growth in public debt has been higher compared to the growth rate in GDP as illustrated in this Changes in Public Debt and GDP chart:There has been a steady growth in public debt over the past five years. The growth is not commensurate with the expansion in the economy over the same period. Using 2014 as the base year, the growth in public debt has been higher compared to the growth rate in GDP as illustrated in this Changes in Public Debt and GDP chart:
The growth in public debt has brought about an increase in public debt service payments over the same period. The table aside illustrates the movement in gross public debt service payments as a percentage of ordinary revenue.
(Source: Kenya Economic Survey, 2019)
Ordinary revenues have not been able to keep pace with the debt servicing payments. This, coupled with the expanding expenditure budgets, has led to an increase in demand for more public debt to finance government expenditure.
Sustainability
The question as to whether public debt is sustainable (or not) is a central consideration in any macro-economic analysis of fiscal policy. And that question may be even more relevant today than ever before. The IMF (2002) considers that public debt is sustainable “if it satisfies the present value budget - solvency - constraint without a major correction in the balance of income and expenditure given the costs of financing it faces in the market.” IMF (2014) is even more explicit in acknowledging the centrality of fiscal policy sustainability, which is characterised as the ability of a government to service its debt without unrealistic fiscal adjustment.
The National Treasury assesses Kenya’s public debt to remain sustainable over the medium term and well within the limit of 50 in Net Present Value terms as per cent of GDP. According to the Debt Sustainability Framework (DSF), published by IMF, Kenya is rated a strong policy performer and being a lower middle-income country, it is subject to public debt sustainability threshold of 70% to Present Value of Debt/GDP. The current Present Value of Debt/GDP for Kenya stands at 48.2 %. In comparison to other lower middle income countries in Sub Saharan Africa, Kenya’s debt to GDP ratio is lower than the average debt/GDP ratio of these countries. The table below shows the debt/GDP ratio for lower middle income countries in Sub Saharan Africa.
The question of sustainability is one that cannot be answered by looking at just one indicator. Evaluation of debt sustainability is a complex matter that calls for an evaluation of several factors within the macroeconomic space. Such complexities explain the apparent puzzle of seeing countries like Japan, with gross public debt levels above 200% of GDP, remain economically strong and with no debt distress, while others default on a considerably smaller stock of debt obligations (30% of GDP in Ukraine).
Recommendations on managing public debt
Enhance county own revenue collection - if all counties were to collect own revenue to their maximum potential, on average, they would be able to finance approximately half of their annual budgets (According to a research done by Adam Smith International), leaving more exchequer funds to finance either infrastructure or to repay/reduce the existing loans/debts.
- Increase tax base – The key driver for an ever increasing public debt is budget deficit. The deficit arises as a result of short falls in ordinary revenue collections. One of the ways of increasing ordinary revenues is to increase the tax base. The informal sector in Kenya is largely untaxed. In order to induce more tax payers to be compliant, the Government should simplify the tax regime and ensure that the public views tax as a means of the country’s self-sustainability rather than a “reduction” in a person’s income.
- To achieve this, the Government should ensure that corruption is eliminated. Currently, eligible taxpayers may be inclined to evade taxes since the taxes will still be “stolen” if remitted to the Government.
- Reforms within the Kenya Revenue Authority should be undertaken to ensure that all its staff act with integrity and professionalism.
- Seal loopholes and eliminate corruption – A lot of government’s revenue is lost due to loop holes in the revenue collection process and corruption. There should be concerted efforts to seal these loop holes and stop corruption. The Government should also strive to recover corruption proceeds.
- Invest the debt in productive sectors of the economy – Much of Kenya’s debt is used in infrastructural projects such as the Standard Gauge Railway and roads. While infrastructure development can stimulate economic growth, it does not in itself lead to increased revenue generation, in the medium term. Infrastructural development is a more long term approach.
- Investing the debt in the productive sectors of the economy such as agriculture, mining, manufacturing and tourism may lead to higher revenues in the medium term and the long term. The Government therefore needs to strike a balance between investment channeled to infrastructural development and that which is channeled to other productive sectors of the economy.
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