Journal Issue


International Monetary Fund
Published Date:
October 2008
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I. Political Context

1. A political crisis followed the December 2007 elections, resulting in major economic disruptions. During the crisis, over 1,000 people were killed and more than 350,000 (about 1 percent of the population) displaced. The disruptions affected also neighboring countries dependent on transport links through Kenya.

2. Following an internationally intermediated power-sharing agreement, a grand coalition government assumed office in April 2008. Under the agreement, President Kibaki remained in office and Mr. Raila Odinga assumed the newly-created position of Prime Minister. Constitutional and land reforms are among the challenging political tasks of the new government. On the economic front, the government submitted the 2008/09 budget and launched Vision 2030, a long-term vision for Kenya. However, there have also been challenges, and the Minister of Finance stepped aside in July to allow investigation of alleged misconduct related to a property sale, with allegations also leveled against the Governor of the Central Bank of Kenya (CBK).

II. Economic Context

3. After a long period of stagnation, growth rebounded strongly over the 5-year period preceding the recent crisis. Important, if uneven, progress in addressing long-standing weaknesses—including in the areas of financial management, governance, and the business climate—underpinned the gains in recent years, combined with strong global growth. Kenya’s GDP growth of 7 percent in 2007 was its highest in over two decades and caught up with growth in the rest of the East African Community (EAC).

Kenya: Comparative Macroeconomic Indicators(Annual percentage change)
Real GDP GrowthInflationReal GDP GrowthInflation
SSA - LIC 13.714.36.18.8
All Low Income4.
Sources: Country authorities; and IMF staff estimates.

Regional GDP Growth, 2007


Sources: Country authorities; and IMF staff estimates.

Kenya: Official Consumer Price Indices

(Annual percentage change)

Source: Kenya National Bureau of Statistics.

4. Political instability took a toll on economic activity and exacerbated inflationary pressures in early 2008. First quarter GDP contracted by 1.3 percent (year-on-year), with tourist arrivals down by over 50 percent and most sectors hampered by disruptions to supply chains and displacement of productive resources. The resulting shortages compounded inflation pressures arising from an earlier accommodative monetary policy as well as from rising international fuel and food prices. Inflation for the official headline consumer price index (CPI) was 26.5 percent in July (year-on-year); and even if the index appears to overstate inflation due to some methodological issues (see Box 1), correcting for the overstatement still left estimated inflation at around 15 percent in mid-2008—well above the authorities’ target of 5 percent.

Box 1.Upward Bias in the CPI Inflation Rate

Kenya’s official CPI imparts an upward bias to “true” inflation. This mainly reflects the chain-linked Carli index used to aggregate individual prices. The Carli index is not “transitive” (if a price increase in one period is reversed in the next, the index would still show an overall increase) and, especially in its chain-linked form, it creates a substantial upward bias, particularly when prices are volatile. For this reason, the International Labor Organization’s CPI Manual (2004) strongly advises against using it for compiling the CPI.

Illustration of Upward Bias in the Carli Index
Item A20251.25
Item B25200.8
Mean of prices(Shillings)(Ratio)
Derived indices(May = 100)(% change)
Source: IMF staff calculations.

To provide a rough sense of the magnitude of the bias, staff applied one of the recommended methodologies (the so-called Jevons index). The results suggest that the overall CPI was overestimated over the past 1½ years by a factor of about 2. In line with the recommendations of a recent STA mission, the Kenya National Bureau of Statistics plans to switch to a formula consistent with international best practices later in 2008, together with a rebasing and reweighing of the CPI basket.

Comparison of CPIs: Official Series and Geometric Mean Estimates

(Annual percentage change)

Sources: KNBS for official series, and IMF staff for geometric mean estimates.

5. The fiscal deficit (including grants) reached 4.8 percent of GDP for 2007/08 (July/June)—below the original budget target but more than twice the deficit of the previous year. The lower-than-budgeted deficit reflected mainly a shortfall in foreign-financed development spending, which had been anticipated under the now expired PRGF program (Table 2). Strong revenue performance benefited from continued tax administration improvements, a buoyant economy through end-2007, which boosted particularly income tax collections, and a 0.3 percent of GDP one-off transfer of collected road fees. Privatization receipts increased sharply to almost 4 percent of GDP. As a result, domestic financing declined and public debt fell below 40 percent of GDP.

Table 1.Kenya: Selected Economic Indicators, 2005/06-2012/2013
(Annual percentage change, unless otherwise indicated)
National accounts and prices
Real GDP growth (market prices)
GDP deflator (average)1/6.45.512.
Consumer price index (annual average)1/11.110.418.514.
Consumer price index (end of period)1/10.911.
Export volume, goods and services6.
Import volume, goods and services16.715.
Terms of trade, goods-5.8-3.0-11.9-7.6-
Ksh per US $ exchange rate (end of period)69.362.664.6
Nominal effective exchange rate (- depreciation; end of period)
Real effective exchange rate (- depreciation; end of period)11.814.27.8
Money and credit
M3 (broad money, end of period)
M3X (broad money and foreign currency deposits, end period)14.918.919.417.316.
Reserve money (end of period)14.017.519.615.014.614.114.114.1
(In percent of GDP, unless otherwise indicated)
Investment and saving
Central government4.
Gross national saving16.016.715.415.316.617.217.918.3
Central government0.
Central government budget
Total revenue20.521.722.321.621.621.621.621.6
Total expenditure and net lending25.224.428.327.626.726.727.327.5
Overall balance (commitment basis) excluding grants-4.7-2.7-6.0-5.9-5.2-5.2-5.7-5.9
Overall balance (commitment basis) including grants-3.4-1.8-4.8-4.6-3.8-3.8-4.2-4.3
Net domestic borrowing1.
Total donor support (grants & loans)
Balance of payments
Exports value, goods and services26.625.524.925.
Imports value, goods and services35.935.236.639.237.637.136.938.6
Current external balance, including official transfers-2.0-2.4-4.6-6.7-5.4-5.2-5.2-5.3
Current external balance, excluding official transfers-2.3-2.4-4.8-6.7-5.4-5.2-5.2-5.3
Gross international reserve coverage
in months of next year imports (end of period)
Public Debt
Total government debt (end of period)45.142.338.838.038.638.638.739.6
of which: external debt26.722.820.320.320.219.619.219.4
NPV of central government debt (end of period)37.935.632.531.932.832.933.234.0
of which: NPV of external debt19.516.
Sources: Kenyan authorities; and IMF staff estimates and projections.
Table 2a.Kenya: Central Government Financial Operations, 2005/06-2012/13 1/
ActualActualProgramStaff ProjectionBudgetStaff ProjectionProjection
(In billions of Kenyan shillings, unless otherwise indicated)
Income tax113.9131.5151.8165.1194.0190.5211.8237.1265.3296.8
Import duty (net)20.527.532.332.936.538.642.046.653.260.4
Excise duty50.356.465.661.972.972.480.991.2102.8114.7
Value-added tax76.396.3112.2111.9133.9135.4149.8167.6188.2210.6
Investment income2.
Ministerial and Departmental Fees (AIA)22.826.432.037.435.135.138.643.248.454.1
Expenditure and net lending382.8419.5557.3562.0673.0654.5705.6790.5903.41,019.6
Recurrent expenditure315.1339.2403.8422.1471.7472.0508.2566.7641.0724.4
Interest payments41.242.549.747.956.757.061.772.087.498.9
Domestic interest31.436.944.042.249.449.454.362.476.385.5
Foreign interest due9.
Wages and benefits (civil service)112.3127.3144.0146.4162.0162.0174.7195.8219.1245.3
Civil service reform1.
Pensions, etc.19.820.424.424.327.127.131.636.742.248.6
Defense and NSIS 2/29.328.745.745.850.850.852.352.959.266.3
Pending bills-0.5-0.10.0-
Development and net lending67.780.3147.8140.0198.3179.4194.3220.6259.0291.7
Domestically financed40.553.581.187.8113.3113.3118.1132.3148.1165.8
Foreign financed23.126.160.345.881.262.474.286.2108.9123.8
Net lending1.
Pending bills-1.0-
Drought Development Expenditure4.
Civil Contingency Fund0.
Drought expenditures0.
Balance (commitment basis, excluding grants)-71.6-46.5-130.1-119.8-160.2-140.8-136.4-152.9-187.6-218.1
Food/debt relief grants 3/
Project grants15.715.526.520.333.830.034.639.147.957.8
Program grants4.
Balance (commitment basis, including grants)-51.5-31.0-99.4-95.7-126.4-110.4-101.3-113.4-139.3-159.8
Adjustments to cash basis14.
Balance (cash basis, including grants)-37.2-29.4-99.0-95.3-126.9-110.4-101.3-113.4-139.3-159.8
Net foreign financing-0.2-
Project loans7.410.633.425.147.432.039.146.760.665.6
Program loans1.
Commercial (incl. security refinancing) 4/
Repayments due-27.5-16.7-17.1-15.7-16.6-17.3-18.9-19.8-20.7-22.0
Change in arrears12.70.7-8.8-0.7-6.1-
Privatization proceeds and other 5/
Bank restructuring costs 6/0.0-20.0-1.1-
Expenditure arrears securitization costs0.00.0-0.1-0.1-0.1-
Telkom restructuring costs (cash) 7/-8.8-
Telkom restructuring costs (bond) 8/-11.5-
Telkom restructuring costs (tax arrears) 9/-15.0-
Bank restructuring financing 6/
Expenditure arrears securitization financing0.
Telkom restructuring financing 8/
Telkom restructuring financing (tax arrears) 9/
Net domestic financing28.334.734.021.854.553.367.272.785.5101.7
Financing gap (stat. discrepancy for outturns)2.2-6.20.0-
Memorandum items:
Nominal GDP1,519.41,717.52,077.81,983.32,393.22,373.82,637.92,955.53,308.63,703.1
Primary budget balance4.013.2-49.3-47.4-70.2-53.4-39.6-41.4-51.9-61.0
Stock of domestic debt, net (end of period)280.1334.7381.3366.5421.0419.8487.0559.6645.1746.8
NPV of total public debt576.0611.9643.7756.4864.9972.61,097.51,257.7
Total public debt686.0725.8768.9901.01,018.61,140.31,281.11,465.4
Sources: Kenyan authorities; and IMF staff estimates and projections.
Table 2b.Kenya: Central Government Financial Operations (percent of GDP), 2005/06-2012/13 1/
ActualActualProgramStaff ProjectionBudgetStaff ProjectionProjection
(In percent of GDP, unless otherwise indicated)
Income tax7.
Import duty (net)
Excise duty3.
Value-added tax5.
Investment income0.
Ministerial and Departmental Fees (AIA)
Expenditure and net lending25.224.426.828.328.127.626.726.727.327.5
Recurrent expenditure20.719.819.421.319.719.919.319.219.419.6
Interest payments2.
Domestic interest2.
Foreign interest due0.
Wages and benefits (civil service)
Civil service reform0.
Pensions, etc.
Defense and NSIS 2/
Pending bills0.
Development and net lending4.
Domestically financed2.
Foreign financed1.
Net lending0.
Pending bills-
Drought Development Expenditure0.
Civil Contingency Fund0.
Drought expenditures0.
Balance (commitment basis, excluding grants)-4.7-2.7-6.3-6.0-6.7-5.9-5.2-5.2-5.7-5.9
Food/debt relief grants 3/
Project grants1.
Program grants0.
Balance (commitment basis, including grants)-3.4-1.8-4.8-4.8-5.3-4.6-3.8-3.8-4.2-4.3
Adjustments to cash basis0.
Balance (cash basis, including grants)-2.5-1.7-4.8-4.8-5.3-4.6-3.8-3.8-4.2-4.3
Net foreign financing0.0-
Project loans0.
Program loans0.
Commercial (incl. security refinancing)4/
Repayments due-1.8-1.0-0.8-0.8-0.7-0.7-0.7-0.7-0.6-0.6
Change in arrears0.80.0-0.40.0-0.3-
Privatization proceeds and other 5/
Bank restructuring costs 6/0.0-1.2-0.1-
Expenditure arrears securitization costs0.
Telkom restructuring costs (cash)7/-0.4-
Telkom restructuring costs (bond)8/-0.6-
Telkom restructuring costs (tax arrears)9/-0.7-
Bank restructuring financing 6/
Expenditure arrears securitization financing0.
Telkom restructuring financing 8/
Telkom restructuring financing (tax arrears)9/
Net domestic borrowing1.
Financing gap (stat. discrepancy for outturns)0.1-0.40.0-
Memorandum items:
Nominal GDP (billion of Ksh)1,519.41,717.52,077.81,983.32,393.22,373.82,637.92,955.53,308.63,703.1
Primary budget balance0.30.8-2.4-2.4-2.9-2.2-1.5-1.4-1.6-1.6
Stock of domestic debt, net (end of period)18.419.518.418.517.617.718.518.919.520.2
NPV of total public debt37.935.632.531.932.832.933.234.0
Total public debt45.142.338.838.038.638.638.739.6
Sources: Kenyan authorities; and IMF staff estimates and projections.

Kenya: Fiscal Developments

(In percent of GDP)

Sources: Kenyan authorities; and IMF staff estimates.

6. The external current account deficit almost doubled in 2007/08 to 4½ percent of GDP. The widening deficit largely reflected the impact of higher oil prices, while exports held up well despite a strong shilling (see below). Strong capital inflows resumed after the crisis—partly driven by a heavily oversubscribed initial public offering (IPO) of Safaricom—and gross reserves increased.

Kenya: External Sector Developments

Sources: Kenyan authorities; and IMF staff estimates.

III. Policy Discussions

A. External Stability

7. Indicators of external performance provide mixed signals. The shilling appreciated by almost 32 percent in real effective terms since end 2004 (based on a corrected CPI series), a period over which the terms of trade deteriorated markedly and the current account deficit increased. However, export values have expanded somewhat faster than global exports, financial and FDI inflows have increased, external debt has declined and is fairly low, and reserves are at historically high levels.

Kenya: Real and Nominal Effective Exchange Rates

(2000 = 100)

Sources: Kenyan authorities; and IMF staff estimates.

Kenya: Exports as Percent of World Exports, 2000-07


Sources: IMF, Direction of Trade Statistics.

8. Overall, the authorities agreed with staff that the exchange rate level appeared broadly appropriate (Box 2). The shilling’s real appreciation since 2005 was likely driven by improving fundamentals, including rising tea and coffee prices, a strengthening net foreign asset position, and improved productivity—all of which helped attract large private financial inflows. Even so, there was agreement that the widening current account deficit entailed risks, and that developments in competitiveness and financial flows needed to be monitored carefully.

9. The authorities considered that the managed float exchange rate system had served Kenya well. Interventions in the foreign exchange market have been largely limited to meeting foreign reserve and monetary targets and reducing exchange rate volatility, with the de facto and de jure exchange rate regimes classified as a managed float. The authorities noted that further structural reforms would be important to keep the current account deficit at a sustainable level. The projected further weakening of the terms of trade highlights the urgency to step up such reforms and address infrastructure bottlenecks, which impede trade.

Box 2.External Stability Assessment

The staff employed several methodologies to assess external stability (see the background study “Assessing Kenya’s External Stability and Competitiveness”). Estimates of the equilibrium real effective exchange rate (REER) show the shilling’s recent appreciation to be in line with fundamentals, particularly with higher prices for tea and coffee, a stronger net foreign asset position, and improved relative productivity. Recent work by the Central Bank of Kenya also found the REER level to be consistent with fundamentals. A second methodology, a variant of the macroeconomic balance approach, suggests that Kenya’s current account deficit remains smaller than its estimated “norm” (although the gap has narrowed in recent years and these estimates are subject to considerable margins of uncertainty). Finally, results based on the level of the current account deficit that would stabilize external debt suggest that the present deficit was higher than the level stabilizing Kenya’s relatively low external debt.

Kenya: Actual and Estimated REER, 1980-2007

Sources: Kenyan authorities; and IMF staff estimates.

Taken together, the different methodologies do not indicate major risks to external stability. However, data and methodological weaknesses suggest caution in interpreting the results.

B. Growth Prospects

10. The authorities and business leaders were confident that a robust economic recovery was already underway. Although the political crisis took a heavy human toll, its damage to productive capacity appears limited, mainly the dislocation of residents and localized destruction of infrastructure. While tourism and agriculture will take some time to regain their strength, various indicators—including for revenues, traffic volumes, and capital inflows—suggest that a recovery has begun. Earlier repercussions on neighboring countries (notably Burundi, Rwanda, and Uganda) have also dissipated.

11. Against this background, staff expects GDP growth to rebound strongly, from 3.9 percent in 2007/08 to 7.2 percent in 2008/09. Much of the acceleration reflects the gradual return to trend growth, following the disruptions in the first part of 2008 (which affected fiscal year 2007/08). At the time of the mission, the authorities forecast slower GDP growth for 2008/09 (5.8-6.6 percent), but this did not yet incorporate the larger-than-anticipated output decline in the first quarter of 2008 nor the correspondingly stronger bounce-back from the weaker base assumed in the staff’s projections for 2008/09.

Kenya: Real GDP

(2007 = 100)

Sources: Kenyan authorities; and IMF staff estimates and projections.

12. Over the medium term, the authorities and staff expect a fairly steady return to trend growth levels. The Budget Strategy Paper (BSP) projects GDP growth to average about 7 percent over the medium term, with staff expecting somewhat lower growth (6½ percent) on current policies. The V-shaped recovery would be broadly in line with previous election-related disruptions in Kenya and elsewhere (such as in Madagascar in 2001-02), where growth tended to rebound quickly, but it took time—often some 4-5 years—for GDP levels to approach the pre-crisis trajectory.

Kenya and Madagascar: Growth Deviations From Trend Rates

(percentage points)

Sources: Kenyan authorities; and IMF staff estimates.

13. The projections are subject to considerable risks. Projected annual growth rates, while close to those before the crisis, are well above the average rate recorded over the past decade—and it was agreed that continued structural and governance reforms were needed to secure these rates. The authorities shared staff’s concerns over downside risks, including those arising from the stability of the power sharing arrangement, challenges for the coalition government to implement much-needed reforms, further increases in global oil and food prices as well as world interest rates, and a more pronounced weakening of the global economy. However, they also emphasized the upside risks—for example, a faster-than-projected rebound in confidence, tourism, and donor support. The staff also noted longer-term constraints on growth, particularly infrastructure bottlenecks as well as relatively low levels of private saving and investment.

C. Fiscal Policy

Fiscal anchor—moving to a public debt target?

14. The authorities recognized that evolving economic circumstances warranted a fresh look at the appropriate fiscal anchor. In the past, a focus on net domestic debt (relative to GDP) had served Kenya well: it helped bring down domestic debt and provided room for private sector credit growth. However, plans for commercial external borrowing could potentially lead to large year-to-year fluctuations in spending for a given amount of domestic financing. The authorities’ agreed that this would be an undesirable outcome.

15. The authorities are considering staff’s proposal of anchoring fiscal policy around a target for total public debt (both domestic and external). The target would ideally also include contingent liabilities and other debts for which the government could ultimately be liable. Cross-country evidence suggests that a public debt-to-GDP ratio of about 35 percent would be an appropriate target for Kenya.1 With the debt ratio currently close to 40 percent, staff supported aiming for a moderate decline over the medium term, particularly given the potential realization of contingent liabilities in the parastatal sector. Year-to-year fluctuations around such a target path could be accommodated if warranted by specific circumstances—for example, large privatization receipts, which should typically be spent gradually over time and result in faster debt reduction, whereas drought-related emergencies or weak output growth could entail a smaller adjustment in a given year. The authorities saw merit in this approach, including its potential flexibility, but stressed also that sufficient room was needed to address urgent spending priorities.

Fiscal policy for 2008/09—supporting growth while preserving macroeconomic stability

16. The 2008/09 budget envisages a deficit of 5.3 percent of GDP and a rebalancing of spending toward public investment. While revenues (in relation to GDP) are expected to fall back from their exceptionally high level in 2007/08, spending is considerably higher than the authorities had envisaged in their 2007 Budget Strategy Paper—resulting also in higher deficits. They saw this as warranted on two accounts: first, higher spending needs, notably to address infrastructure bottlenecks and new policy initiatives (for example, free secondary education) emerging out of the political tensions in early 2008; and, second, better financing opportunities than envisaged earlier, including access to commercial foreign financing (see below).

17. Staff supported the emphasis on public investment, but saw merit in having a lower-than-budgeted deficit (of about 4½ percent of GDP). This would be consistent with the medium-term debt objective outlined above and allow for fiscal policy to play its part in preserving macroeconomic stability, in a context of strong economic growth and high inflation. Staff noted that this deficit was indeed achievable in the context of the authorities’ budget plans, provided foreign-financed investment spending was executed in line with rates of the recent past (rather than the 100 percent execution rate assumed in the budget). This would still allow for real spending growth of some 2 percent (versus 5 percent in the budget). The authorities recognized that their plan for foreign-financed spending was ambitious, but were not convinced of the need to aim for a lower deficit target in light of post-crisis spending needs.

Kenya: Fiscal Scenario, 2007/08 - 20010/11(In percent of GDP, unless otherwise indicated)
Staff EstimateAuthorities’ Budget 1/Staff ProjectionStaff Projection
(In percent of GDP)
Total revenue22.321.421.621.621.6
Total expenditure and net lending28.328.127.626.726.7
Overall balance (incl. grants)-4.8-5.3-4.6-3.8-3.8
Memorandum items:
Total public debt38.838.038.638.6
Real GDP growth rate (percent)
Sources: Kenyan authorities; and IMF staff estimates and projections.

18. The authorities outlined plans for financing some infrastructure spending from the proceeds of a sovereign bond. Discussions were still at an early stage, with an envisaged amount of around US$ 500 million. While staff emphasized that concessional funds remained the first-best source of funding, there was agreement that if commercial funds were to be used, market conditions, funding costs, maturity, and the repayment profile needed to be carefully evaluated to maximize the benefits of the bond. Moreover, the size of the issue should not exceed what can effectively be absorbed in high-return projects ready for execution. The authorities indicated that they would cut back on domestically financed development spending, if the bond issuance were delayed. The staff also stressed the need for a comprehensive medium-term debt management strategy and encouraged steps to improve statistics on external financial flows.

19. The authorities took several measures to mitigate the impact of rising world food prices. These measures, which entailed very limited fiscal costs, included the zero-rating of VAT on bread and rice, reductions in customs duties for wheat, and steps to make fertilizer available at internationally competitive prices. The discussions covered also targeted support to the most vulnerable segments of the population—for example, an expansion of school feeding programs—but steps in these areas remain contingent on future price and supply developments.

Medium-term fiscal stance—agreement on gradual adjustment and on priority spending

20. On unchanged policies, little progress would be made in reducing the public debt ratio. The authorities recognized the limited fiscal consolidation embedded in an unchanged policy scenario—a scenario that assumes no major policy initiatives beyond those already in place (Table 2)—and stressed their commitment to adjustment over the medium-term.

21. The 2008 Budget Strategy Paper envisaged a gradual reduction of the public debt-to-GDP ratio toward 35 percent over the medium-term—an objective that staff supported. The authorities underscored that while overall spending (relative to GDP) would decline over the medium-term, the composition would shift toward development spending, in particular to address urgent infrastructure needs. The specific measures to secure this adjustment still needed to be identified, however, in future budgets.

Total Public Debt under Alternative Assumptions

(In percent of GDP)

Sources: Kenyan authorities, and IMF staff estimates and projections.

D. Monetary and Financial Sector Policy

22. Monetary policy was fairly accommodative over much of the past three years. During this period, monetary targets were frequently missed, and real interest rates on treasury bills (even if based on corrected inflation estimates) were often negative. In 2008, the CBK accommodated crisis-related liquidity needs in the early part of the year, but monetary conditions tightened considerably thereafter. In early June, the Central Bank Rate (CBR) was raised by ¼ percentage point to 9 percent in response to continued inflationary pressures.

Kenya: Interest Rates


Source: Central Bank of Kenya.

23. Notwithstanding the recent monetary tightening, the CBK agreed that further steps would be required if inflationary pressures did not abate soon. The authorities explained that the June increase in the CBR had signaled their intention to let market rates rise. Staff stressed the need to employ decisively all available instruments—including, as appropriate, term-deposit auctions and FX reserve sales—to slow reserve money growth to a rate consistent with preventing the second-round effects of higher food and fuel prices; in this regard, the planned introduction of the CBK’s own bills could provide a further useful instrument. However, reserve money growth (19 percent, year-on-year, in July) has remained above the level that the CBK and staff had considered consistent with the envisaged decline in inflation during 2008/09.

24. The discussions covered also alternatives to the money-based monetary framework, including moving to inflation targeting over the medium term. While monetary policy would benefit from a strong and credible focus on a low inflation target, it was agreed that more work was needed before initiating steps toward alternative frameworks, including possibly inflation targeting. In particular, this would require the resolution of the methodological issues related to the CPI, but also a better understanding of the monetary transmission mechanism and alternative institutional arrangements for monetary policy—areas where the CBK planned further analytical work.

25. Most indicators suggest a relatively healthy banking system, but the CBK had to help address liquidity shortfalls in a few smaller banks in the first half of 2008. Market participants expected that the fallout from the economic downturn in the first quarter could somewhat weaken financial soundness indicators (Table 5) in the period ahead. The CBK had provided support to a few banks when interbank liquidity dried up in the context of the heavily oversubscribed Safaricom IPO—when the interbank market did not recycle IPO-related payments from receiving banks to some smaller banks in need of liquidity.

Table 3.Kenya: Monetary Survey, 2005-2009
(In Billions of Kenya Shillings)
Central Bank of Kenya (CBK)
Net foreign assets 1/95.7159.5174.2213.9211.6213.9216.2228.9
In Millions of US $1,2122,1592,3572,8963,0673,0783,0893,192
Net domestic assets-1.2-51.8-47.7-62.7-58.7-31.8-47.6-55.0
Net domestic credit1.7-37.0-16.8-21.5-17.311.9-3.7-9.8
Government (net)5.1-15.8-3.5-28.4-5.621.37.59.5
Private sector credit (CBK staff loans)
Commercial banks (net)-5.3-23.4-15.74.5-14.2-11.9-13.8-21.8
Other items (net)-2.9-14.8-30.9-41.2-41.3-43.7-43.8-45.2
Reserve money (RM)94.4107.7126.5151.2153.0182.1168.6173.9
Currency outside banks59.367.
Bank reserves35.140.548.367.257.766.968.775.8
Required Reserves 2/25.930.
Excess Reserves1.
Cash in till8.09.011.716.
Net foreign assets 1/52.832.165.6102.196.093.387.680.6
Credit to CBK5.323.415.7-4.514.211.913.821.8
Net domestic assets374.2442.3512.0610.4609.5645.8703.4731.5
Domestic credit459.2535.3608.3738.7696.8743.8810.5852.4
Government (net)107.2133.7160.6161.1163.8164.4165.1162.4
Other public sector10.312.212.510.113.014.816.010.4
Private sector341.7389.5435.2567.6520.0564.6629.4679.6
Other items (net)-85.0-93.0-96.3-128.4-87.3-98.0-107.1-120.9
Total deposits467.5538.3641.7775.2777.4817.9873.5909.6
Monetary survey
Net foreign assets 1/148.4191.6239.8316.0307.6307.2303.8309.5
Net domestic assets378.3413.9480.0543.1565.0625.9669.6698.3
Domestic credit466.3521.7607.1712.8693.6767.6820.6864.4
Government (net)112.3117.9157.2132.7158.2185.7172.6171.9
Rest of the economy354.0403.8450.0580.1535.4581.9647.9692.5
Other public sector10.312.212.510.113.014.816.010.4
Other items (net)-88.0-107.8-127.1-169.6-128.6-141.7-150.9-166.2
Money and quasi money (M3)442.4522.0605.5716.4745.4803.4841.1872.8
M3 and foreign currency deposits (M3X)526.8605.5719.8859.2872.7933.1973.51,007.8
Currency outside banks59.367.
of which: foreign currency deposits84.483.5114.3142.8127.2129.8132.4135.0
Memorandum items:
(In Percent of Annual Change)
Money and quasi money (M3)8.618.016.018.318.120.520.721.8
M3 and foreign currency deposits (M3X)11.314.918.919.417.317.017.117.3
Reserve Money4.714.017.519.616.517.012.015.0
Currency outside banks6.613.316.27.519.020.017.616.9
Net domestic assets of the banking sector7.09.416.
Domestic credit7.811.916.417.413.614.215.921.3
Government (net)-
Rest of the economy20.614.111.428.919.09.519.119.4
Non-bank holdings of government debt, billions of Ksh137159.9175.1196.4184.2170.0196.4210.4
Stock of domestic debt, billions of Ksh249277.8332.3329.1342.4355.7369.0382.3
Multiplier (M3/RM)
Velocity (GDP/M3)
Sources: Central Bank of Kenya; and IMF staff projections.
Table 4.Kenya: Balance of Payments, 2005/06-2012/13(In millions of U.S. dollars, unless otherwise indicated)
Current account-404-586-1,391-2,283-2,069-2,232-2,479-2,696
Excluding official transfers-466-586-1,446-2,283-2,069-2,232-2,479-2,696
Exports, f.o.b.3,5083,8354,7015,4606,0956,8817,7658,796
Imports, f.o.b.-6,295-7,461-9,453-11,256-12,153-13,503-15,101-16,847
Balance on goods-2,787-3,626-4,752-5,796-6,057-6,621-7,336-8,051
Services (net)8551,2391,2001,0641,3081,5621,8192,087
Foreign travel credit 1/6317948017428751,0191,1721,348
Balance on goods and services-1,932-2,387-3,552-4,732-4,749-5,059-5,517-5,964
Income (net)-38-44-24525618321
of which: official interest payments-86-82-92-59-73-129-138-198
Current transfers (net)1,5661,8442,1852,3962,6242,8093,0063,267
Private (net)1,5041,8442,1312,3962,6242,8093,0063,267
of which: remittances6258161,0101,1971,3411,4351,5351,667
Official (net)6305500000
Capital and financial account9108392,0862,6152,4852,7533,0853,385
Capital account (incl. capital transfers)215227320428498563671811
Financial account6946121,7662,1871,9872,1892,4142,574
Investment assets and liabilities (net)6341397341,8841,4261,5031,8102,115
Official, medium and long term-386235769717679845831
Program loans2102000000
Project loans101155395458720674850920
Commercial loans 2/21210500200200200200
Government guaranteed/parastatal4272835856565639
Commercial banks (net)234-454-493257-188-199-2300
Private (net)4385879938588971,0231,1941,284
Short-term (net) and net errors and omissions 3/614731,032302561686604459
Overall balance506252695332416521606690
Financing items-506-252-695-332-416-521-606-690
Reserve assets (gross)-766-370-720-227-398-493-572-644
Use of Fund credit and loans to the Fund (net)-94951-14-18-28-34-45
Change in arrears 4/15019-26-910000
Remaining gap00000000
Tentatively identified program support00000000
Memorandum items:
Gross official reserves (end of period)2,3532,7233,4433,6704,0684,5615,1345,778
in months of next year’s imports of goods and services3.
Current account balance (excl. official transfers, percent of GDP)-2.3-2.4-4.8-6.7-5.4-5.2-5.2-5.3
Import volume growth, goods (percent)
Import value growth, goods (percent)28.718.526.719.
Export volume growth, goods (percent)7.93.811.511.812.713.012.211.0
Export value growth, goods (percent)13.19.322.616.111.612.912.813.3
Change in the terms of trade (goods, percent)-5.8-3.0-11.9-7.6-
Public and publicly guaranteed external debt (percent of GDP)26.722.820.320.320.219.619.219.4
Sources: Kenyan authorities; and IMF staff estimates and projections.
Table 5.Kenya: Financial Soundness Indicators, December 2003–May 2008(In percent)
Capital Adequacy
Regulatory capital to risk-weighted assets17.316.616.416.518.019.517.4
Regulatory Tier I capital to risk-weighted assets16.316.216.016.416.818.316.2
Capital (net worth) to assets11.811.912.112.412.612.711.4
Asset quality
Nonperforming loans to gross loans 234.929.325.621.310.910.59.6
Nonperforming loans net of provisions to total capital60.752.740.128.615.115.515.4
Earnings and Profitability
Return on assets2.
Return on equity23.
Liquid assets to total assets33.232.433.130.535.136.138.6
Liquid assets to total short-term liabilities48.941.540.644.440.240.241.0
Customer deposits to total (non-interbank) loans131.6135.7125.1129.0138.6142.6140.2
Foreign currency liabilities to total liabilities14.317.815.916.116.316.415.6
Sensitivity to market risk
Net open positions in FX to capital12.
Net open positions in equities to capital7.97.710.
Source: Central Bank of Kenya; and Fund Staff calculations.

E. Vision 2030 and Structural Reforms

26. The government’s structural reform agenda is centered around its Vision 2030 program. A key economic target of Vision 2030 is to accelerate annual GDP growth to 10 percent per year by 2012 and sustain this growth thereafter, making Kenya a middle-income country by 2030. A medium term plan that would guide the new poverty reduction strategy was recently derived from Vision 2030. Against this background, discussions focused on selective structural reforms in the Fund’s core areas.

27. The authorities considered a vibrant financial sector as critical for dynamic, broad-based growth. To this end, they intended to finalize soon a Financial Sector Strategy. They also planned to move forward with a comprehensive revision of the Central Bank and the Banking Acts, including with steps that would bring mandatory and prompt corrective actions in line with international best practices. Moreover, the CBK expected improved efficiency in the money market following the recent dematerialization of treasury bill transactions and the adoption of the Master Repurchase Agreement governing horizontal repurchase agreements. An anti-money laundering bill is before parliament—although its passage remained uncertain—and the privatization of the National Bank of Kenya is on the agenda.

28. Concerning structural reforms in the fiscal area, discussions focused on public financial management and the role of public private partnerships (PPPs).

  • The authorities concurred with the need to reinvigorate their five-year public financial management reform program. Plans included: (i) adoption and subsequent implementation of the Public Finance Administration Bill; (ii) expansion of the Integrated Financial Management Information System (IFMIS) to the few remaining ministries and all districts; (iii) introduction of a single treasury account; and (iv) adoption of program budgeting, where a pilot phase is presently underway. There was agreement that if plans to devolve more spending to subnational levels were proceeding, mechanisms needed to be put in place first that would ensure effective coordination with fiscal policy at the central level and strengthen budget reporting and control.

  • PPPs are to raise some of the funding for implementing Vision 2030. Plans were advancing to finalize a solid framework for PPPs. The authorities recognized that PPPs could play a useful role in infrastructure development, but could also entail fiscal and implementation risks. They were considering staff’s suggestion to start with smaller projects until more experience is gained, and agreed on the need to transparently record all PPPs and potential public liabilities.

29. The authorities intend to update the Governance Action Plan. The Plan for 2006/07 had provided a useful framework, and the authorities intended to publish outcomes for the actions envisaged under the Plan. This would show important progress in several areas, including on public procurement and business regulations, where improvements placed Kenya among the world’s top 10 reformers in the World Bank’s 2008 doing business report. The authorities recognized, however, that other objectives were not met. These included public access to the wealth declarations of senior public officials and ongoing verification of wealth declarations by the Kenya Anti-Corruption Commission—areas where staff encouraged progress under the next action program.

30. Strong medium-term growth will require further regulatory and trade reforms. While considerable progress has been made in streamlining business licenses, the World Bank’s Doing Business Indicators continue to point to high costs in several key areas—findings that are supported by other indicators. On trade reform, the authorities noted the EAC’s success in advancing trade integration, and took note of staff’s suggestion to work with their partners to lower barriers. These were expected to be covered in the common external tariff and remove nontariff an EAC common market agreement, to be signed by July 2009. Discussions on a full Economic Partnership Agreement with the EU were also to be finalized by mid-2009.

Kenya: Doing Business Indicators, 2007
Ease of…World Rank 1SSA Rank 2
Doing Business725
Of which:
Starting a Business11217
Registering Property11414
Paying Taxes15437
Trading Across Borders14830
Enforcing Contracts10719
Source: World Bank, Doing Business Database.

F. Ex Post Assessment

31. The authorities welcomed the opportunity to draw lessons from the longer-term program engagement with the Fund and broadly agreed with most of the EPA conclusions. They appreciated that the EPA highlighted Kenya’s track record of relatively prudent macroeconomic management and its improved performance over the past five years. They also concurred that an earlier re-evaluation of the focus of the Fund’s involvement in the governance area would have been helpful. Moreover, they considered that some conditionality, particularly in the governance area, had not reflected realistic timetables or the constraints of Kenya’s legal and political systems, and an emphasis on legal and institutional governance reforms should have come earlier. Several non-governmental representatives, but also some among the authorities, expressed concern that the relationship between Kenya and the Fund had often been an unequal one, with the Fund taking advantage of difficult economic circumstances to push for adjustments, with negative consequences for growth and poverty reduction.

IV. Staff Appraisal

32. Following the political crisis of early 2008, the new government has taken initial steps that, if sustained, could facilitate a relatively quick return to strong economic growth. The post-election violence interrupted a remarkable five-year rebound, in which economic growth finally caught up with the region. The initial steps by the grand coalition government—including measures to safeguard fiscal stability in 2007/08 while addressing urgent spending needs—provide a good basis for advancing growth- and stability-oriented reforms. Improving political stability and security have already sparked a quick economic rebound and prospects are favorable, if supported by strong policies and provided the world economy does not weaken beyond current forecasts.

33. While the external current account deficit has increased, there appear to be no major risks to external stability. The appreciation of the real exchange rate seems broadly in line with economic fundamentals, with strong capital inflows financing the current account deficit and foreign reserves increasing. Under these circumstances, exchange market interventions should remain limited to smoothing excessive short-term volatility and meeting the foreign reserve target.

34. While the tightening of monetary policy in mid-2008 was welcome, more steps are urgently needed to prevent second-round effects of food and fuel price increases. This requires employing decisively the available instruments to limit monetary growth to rates consistent with the inflation objectives. Moreover, the methodological issues of the current consumer price index should be resolved quickly to allow an accurate inflation assessment. Over the medium term, broader reforms of the monetary framework could be considered, including moving to explicit inflation targeting, and planned analytical work on the issues is welcome.

35. Fiscal policy needs to balance spending in support of growth and poverty reduction with preserving macroeconomic stability. In this context, the 2008/09 budget rightly realigns spending priorities toward infrastructure and several social objectives, such as free secondary education. More spending may also be needed eventually to provide targeted support to those most vulnerable to the increases in food and fuel prices. However, these spending priorities could be accommodated within an overall smaller-than-budgeted spending envelope. Indeed, in the face of strong growth and inflation pressures, it would seem appropriate to target some reduction in the fiscal deficit, to around 4½ percent of GDP—somewhat below the budget proposal. Importantly, this would also allow a reduction in the public debt-to-GDP ratio.

36. Consideration could be given to making the public debt-to-GDP ratio a medium-term anchor for fiscal policy. It would cover not only domestic but also external debt—an increasingly important consideration amid prospects of external commercial borrowing. A sovereign bond could help finance some high-return infrastructure projects, in cases where concessional resources—the first-best option—are not available. Size, timing, and modalities of the issuance are also important considerations to maximize the benefits of a sovereign bond.

37. Vision 2030 provides appropriately ambitious targets for Kenya—and it is now imperative to advance the structural reforms needed for realizing this vision. If the private sector is to play its envisaged lead role, further improvements in the investment climate are required. Accelerating financial sector reforms will be key, also to secure the needed increase in domestic resource mobilization. In addition, PPPs could play an important role, but smaller projects should precede larger ones to gain experience in limiting potential fiscal and implementation risks. The public sector also had its part to play in addressing infrastructure bottlenecks, and an important growth impulse could come from further trade reforms.

38. Continued progress on governance and transparency would be important to achieve the Vision 2030 objectives. Important progress was made in implementing the 2007/08 governance action plan, such as in public procurement and business regulation. The planned update of the plan should include steps in areas where the original objectives were not met, including for wealth declarations and verifications for senior public officials. Further improving public financial management will also be important to advance transparency, including with measures to expand IFMIS and ensure the efficient use of devolved public resources.

39. It is recommended that the next Article IV consultation take place on the standard 12-month cycle.

Table 6.Kenya: Millennium Development Goals, 1990–2005
Goal 1: Eradicate extreme poverty and hunger
Income share held by lowest 20%3.46.0
Malnutrition prevalence, weight for age (% of children under 5)22.521.219.9
Poverty gap at $1 a day (PPP) (%)12.85.9
Poverty headcount ratio at $1 a day (PPP) (% of population)33.522.8
Poverty headcount ratio at national poverty line (% of population)40.0
Prevalence of undernourishment (% of population)393631
Goal 2: Achieve universal primary education
Literacy rate, youth total (% of people ages 15-24)9080
Persistence to grade 5, total (% of cohort)7783
Primary completion rate, total (% of relevant age group)95
School enrollment, primary (% net)6780
Goal 3: Promote gender equality and empower women
Proportion of seats held by women in national parliament (%)1347
Ratio of girls to boys in primary and secondary education (%)9794
Ratio of young literate females to males (% ages 15-24)93101
Share of women employed in the nonagricultural sector (% of total nonagricultural employment)21.426.633.238.7
Goal 4: Reduce child mortality
Immunization, measles (% of children ages 12-23 months)78837569
Mortality rate, infant (per 1,000 live births)64727779
Mortality rate, under-5 (per 1,000)97111117120
Goal 5: Improve maternal health
Births attended by skilled health staff (% of total)50454442
Maternal mortality ratio (modeled estimate, per 100,000 live births)1,000
Goal 6: Combat HIV/AIDS, malaria, and other diseases
Contraceptive prevalence (% of women ages 15-49)27333939
Incidence of tuberculosis (per 100,000 people)108217436641
Prevalence of HIV, female (% ages 15-24)5.2
Prevalence of HIV, total (% of population ages 15-49)6.1
Tuberculosis cases detected under DOTS (%)554643
Goal 7: Ensure environmental sustainability
CO2 emissions (metric tons per capita)
Forest area (% of land area)766
GDP per unit of energy use (constant 2000 PPP $ per kg of oil equivalent)
Improved sanitation facilities (% of population with access)4043
Improved water source (% of population with access)4561
Nationally protected areas (% of total land area)12.6
Goal 8: Develop a global partnership for development
Aid per capita (current US$)50271722
Debt service (PPG and IMF only, % of exports of G&S, excl. workers’ remittances)28.624.917.24.0
Fixed line and mobile phone subscribers (per 1,000 people)71014143
Internet users (per 1,000 people)0332
Personal computers (per 1,000 people)0159
Total debt service (% of exports of goods, services and income)35.430.420.94.4
Unemployment, youth female (% of female labor force ages 15-24)
Unemployment, youth male (% of male labor force ages 15-24)
Unemployment, youth total (% of total labor force ages 15-24)
Fertility rate, total (births per woman)
GNI per capita, Atlas method (current US$)380270430540
GNI, Atlas method (current US$) (billions)8.87.513.218.4
Gross capital formation (% of GDP)24.221.817.416.8
Life expectancy at birth, total (years)58534849
Literacy rate, adult total (% of people ages 15 and above)7174
Population, total (millions)23.427.230.734.3
Trade (% of GDP)57.071.751.262.3
Source: World Development Indicators database.

See background paper “Public Debt Thresholds for Kenya” and debt sustainability analysis in Supplement I.

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