Debt dilemma in legacy Budget of Uhuru Kenyatta’s reign

National Treasury Cabinet Secretary Ukur Yatani will today (Thursday) outline his plans for financing a Sh3.3 trillion Budget in a tough economic environment still haunted by the lingering shocks of the Covid-19 pandemic.

The Budget is the last under the Jubilee administration and is an increase from the Sh3.1 trillion approved in June for the financial year 2021/22. It is premised on an expected ordinary revenue collection of Sh2.1 trillion, which will be supported by a recovering economy — marking a Sh342 billion increase from the projected Sh1.8 trillion to be collected by the taxman this year.

Revenue

The government is betting on higher income tax collection from Sh818 billion to Sh997 billion and Value Added Tax (VAT) from Sh477 billion to Sh585 billion. It also expects the Kenya Revenue Authority (KRA) to increase the collection of import duty to Sh145 billion from Sh119 billion and excise duty to Sh297 billion from Sh260 billion.

This leaves a fiscal deficit of Sh846 billion, which will be financed by a mix of both external and local borrowing. The large fiscal deficit is set to be a heavy burden on President Uhuru Kenyatta’s successor after the August General Election, with the growing spending appetite scarcely being satiated by the revenue being collected into the exchequer.

Servicing costs

But without borrowing, the government will scarcely be able to implement its key programmes, including election-related projects; the Big Four Agenda; cash transfer programmes; subsidies for fuel and fertiliser; as well as other initiatives targeting farmers in the tea, sugarcane, and coffee sub-sectors.

However, the higher debt load is set to further increase annual debt servicing costs, which stand at Sh1.17 trillion this year, shrinking the budget for development. This means an ever-higher amount of revenue will be used to repay the principal and interests on debt as opposed to development expenditure.

Data from the Central Bank of Kenya shows Kenya’s public debt hit Sh8.2 trillion in December, with the Parliamentary Budget Office (PBO) estimating that the debt level will rise to Sh8.6 billion by June and cross the Sh10 trillion mark by the end of 2024.

Members of Parliament (MPs) in February raised the debt ceiling to Sh12 trillion, setting the stage for accelerated borrowing by the state for increasing spending plans.

In its report on the 2022 Budget Policy Statement, the Budget and Appropriations Committee had recommended that the Budget be slashed by Sh400 billion, which would have had a huge impact on the development budget, particularly on the Big Four agenda.

National Assembly Majority Leader Amos Kimunya, however, successfully convinced MPs to alter the committee’s recommendations.

“The committee, therefore, urges the National Treasury to amend the debt ceiling to enable them to implement the Budget as proposed, rationalise expenditure or implement revenue-enhancing measures,” reads Mr Kimunya’s proposal that was adopted by Parliament.

Borrowing strategy

PBO notes that the government has shifted its borrowing strategy towards local banks, individuals, pension funds, and other investors and away from external lenders over the past decade, with a dire snowball effect on the local financial markets.

“The ratio of net foreign financing to net domestic financing shifted from 57:43 (whereby net financing was depended on external financing) under the 2010 MTDS (medium-term debt strategy), to 32:68 (whereby domestic financing will be the main source of fiscal deficit financing) under the 2022 MTDS,” it said.

Increased risk

The office, which advises lawmakers on key fiscal policy issues, says the higher local debt poses an increased risk to debt servicing costs while crowding out local businesses from the credit market.

Risk-free

This means banks will find it safer and more profitable to lend to the risk-free government as opposed to businesses that pose a high default risk, a move that will limit the growth of the economy.

“The domestic debt portfolio has a higher refinancing risk and interest rate risk exposure, despite shifting borrowing from short-term debt instruments to using the medium-term to long-term instruments,” said the budget office.

“Already, there is a heavy dependence on the domestic market for government financing as can be illustrated by deviations from annual strategies in favour of domestic financing.

“Whilst this is critical for domestic market sustainability, if it is not coupled with adequate market reforms, could exert pressure on the domestic financial market and increase borrowing costs.”

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