Frontier Friday: Account Deficit Leads To Negative Outlook
Kenya, which has improved its country ranking by 21 to 108 in the 2016 World Bank’s Doing Business Index, is today ranked in the 22nd percentile of the UN Human Development Index. Ratings agency Fitch Ratings this week affirmed the country’s long-term foreign and local currency IDRs at ‘B+’ and placed a a negative outlook on the sovereign. Fitch has also placed the country ceiling (affirmed) at ‘BB-‘and the short-term foreign and local currency IDRs at ‘B’.
Currently, Kenya‘s ratings are supported by its strong growth potential and resilience to shocks, says Fitch, along with its “favorable business climate and only moderate exposure to commodity prices.” However, the agency goes on to explain that Kenya’s ratings are constrained by its low GDP per capita, significant twin budget and current account deficits. Coupled with rising public and external debt ratios and simmering political risks, the argument is a strong one for the action.
Kenya is making progress in reducing its budget deficit, but it is still a substantial amount. Kenya’s path to consolidation remains subject to downside risks, the agency says. Fitch forecasts a fiscal deficit of 7.1% of GDP for the fiscal year ending June 2017 (FY17), down from 7.5% in FY16 and compared with the original budget target of 9.7%. Nevertheless, this remains well above the ‘B’ median of 4.2%. The possibility of under-performing tax revenues and increased current expenditures around the August 2017 general elections represent a downside risk, although this is balanced against Kenya‘s history of under-executing capital expenditures.
The country’s “large and persistent” fiscal deficits have also led to a steady increase in gross general government debt, to 55% of GDP at end-FY16 from 42% at end-FY13. Fitch forecasts it will rise further to 57% at end-FY17, just above the ‘B’ median of 56%. As a percentage of revenue the debt level is 287%, compared with the ‘B’ median of 230%. Kenya‘s debt sustainability will rely on its ability to continue to reduce the primary fiscal deficit and to maintain high levels of economic growth.
Medium-Term Outlook Remains Strong
Public sector spending in Kenya continues to fuel demand, despite under-executing the capital budget. The economy grew substantially by 6.1% in the first half of 2016, due in part to improving drought conditions, thus aiding the agricultural output. TOurism, too, saw a rebound across the country. Fitch forecasts full year 2016 growth come in at or around 5.8%,” owing to decelerating credit growth, and 6% in 2017, but uncertainty around the elections is a downside risk.”
Consumer price inflation has remained within the central bank’s 5+/-2.5% inflation target, supported by the stability of the shilling and lower food and fuel prices. Inflation experienced a slight uptick to 6.7% in November, but it is still well below the 8% reached as of end-December 2015. Lowered inflation expectations have allowed the Central Bank of Kenya to lower the benchmark Central Bank Rate by a total of 150 bps in 2016.
In August 2016, the Kenyan Parliament passed a law capping the rates that lenders can charge at 400 bps above the central bank policy rate. Fitch remains cautious that the interest rate cap will increase overall credit by increasing demand as the authorities expect. In the near term, the rate cap will more likely put additional pressure on bank profitability, the agency says, as well as willingness to lend. Credit to the private sector grew at 4.8% year-on-year in October 2016, down from 19.5% in October 2015. According to the Central Bank of Kenya, NPLs increased to 9.3% of gross loans as of October 2016, up from 5.7% in October 2015.
Political Risk Rising
Kenya‘s August 2017 general elections pose some security and economic risks. Some violent incidents appear likely, but Fitch does not expect it to be anything like the scale of the 2007 elections, when up to 1500 people were killed in ethnic violence. The opposition Coalition for Reform of Democracy coalition reached agreement in principle with the governing Jubilee party over the composition of the Independent Electoral and Boundaries Commission, but it has yet to be fully staffed, after a dispute which flared into protests and violence earlier in the year.
Kenya‘s overall security situation has also seen improvement, highlighted by the removal of travel advisories by both the US and UK foreign ministries and by the increase in tourism over 2017.
Photo Credit: National Treasury Office Building, Nairobi, Kenya. PHOTO FILE.