The shrinking shilling: What we must do to save the Hustlers economy
Central Bank of Kenya Governor Patrick Njoroge. Kenya’s prospects today hinge strongly on a critical redirection amidst policy lethargy, confusion and a trail of myopically incurred indebtedness.
A memorable insight into the link between the power of economic policy and leadership came from the legendary John Maynard Keynes, macroeconomist per excellence: “The ideas of economists… when...right …when wrong, …are more powerful than is commonly understood. Indeed, the world is ruled by little else.”
Kenya’s prospects today hinge strongly on a critical redirection amidst policy lethargy, confusion and a trail of myopically incurred indebtedness. The national debt and key metrics place us sixth among 50 countries in Sovereign Debt Vulnerability Rankings by Bloomberg (2022), with a Debt/GDP ratio at over 70 per cent and outlays of 4.4 per cent of GDP to interest expense.
Kenya is right up there with Ghana which, at rank two, has already defaulted. Kenya’s current debate on taxes rides on a public finance system that threw the bill for intransigent over-borrowing and lack of accountability to Wanjiku and her future children. The prospects of the shilling will worsen our economy significantly if we do not change direction.
How did we get here only a decade after former President Kibaki built a trajectory for recovery, when he made lemon juice from a Moi era wrecking of the economy? Why have multiple warnings by experts and proposals by technocratic institutions on reforms of public finances, such as those crafted by the Parastatal Reforms Implementation Committee, or the Office of Management and Budget (which former President Uhuru Kenyatta announced but did not implement) been ignored?
National Sovereign Wealth Fund
The latter, together with a National Sovereign Wealth Fund (NSWF) Bill (2014) would have professionalised budget-making, rid the economy of incompetence and theft of public funds and provided a cushion for state investment in real and financial assets. Are we getting good enough at policy management to stop digging the hole the economy is in and start climbing out?
One consequence of Kenya’s high borrowing requirements from the Central Bank (CBK), commercial banks (domestic and foreign), public and private sources is that it ends up eating into the benefits promised to Wanjiku, and her Constitution turning into so much hot air. In the specific case of the 2014 Eurobond, government at high level worked hard to wrestle Kenya’s Auditor-General when he sought transparency for borrowed funds.
While we play too close to the fire with debt vulnerability, there are choices we can still make to steady the economy. The markets listen better pre-default than in the post-default phase. In place of an undefined programme to switch borrowed external funds to retire domestic debt, we can rethink a larger picture.
The call I’ve heard is substantially an indefensible switch of capital outflows under a depreciating shilling. Since portfolio flows enter the liabilities of lead commercial banks, often earning handsomely on the asset side in Treasury bills and bonds (from Kenya’s high returns relative to industrial countries), investors are able to expatriate earnings through our open capital account, only to again reinject portfolio flows for a replay in the next round of TB and bonds sales.
Compare the current Kenya government's effort to scrape the barrel for back taxes to the framework of economic recovery started by former President Kibaki in 2002. Are back taxes a fiscal policy or a fiscal stance thought out for effects in economic recovery, let alone a cog within a headline policy mix? Or is it a misunderstanding of stocks and flows?
While the government should indeed collect the stock of back taxes, what assurances exist that the taxes will not be sucked back into the pipeline, where familiar hands grope perpetually in Wanjiku’s revenue cookie jar? What if the collections do not inject investments and jobs?
If we also targeted kick-starting the recovery in a policy mix driving investments and jobs, we could, in the short to medium term, be collecting a flow and pipeline of revenues from growing output for years to come. Therein lies much of the genesis of the model and credible fiscal/monetary policy mix that former President Kibaki and his advisers applied to achieve recovery over 2002-2013.
Sh250 billion
Revenues climbed a trajectory from Sh250 billion to KSh850 billion in less than ten years on the back of an economy that at its peak in 2010 achieved a growth rate of 8.4% in GDP. The model facilitated a cut in public debt from over 70% of GDP to 38%, using revenues to repay debts and switching domestic credit away from government to the private sector. This spurred investment and jobs. Will back taxes or the Hustler Fund achieve Kibaki’s impetus?
The main victims of ten years of mismanagement and muddles have been the shrinking Kenya shilling, sluggish economic growth and falling standards of living whose effects will become especially chilling if we do not change track. Start with the direction of the GDP, the source of GDP per capita, and living standards. Fig. 1 shows a snapshot of a skidding economy.
GDP has gone south from Q3 2021 growth of 9.3% (not in the figure), losing steam to 6.8% in Q1-2022 then falling continuously to 4.7% in Q3-2022, from the latest figure KNBS released. The snapshot on the shilling taken at the last day of each Quarter shows it declined from 114.9 per US$ in Q1-2022 to KSh123.3 in Q4-2022.
For an open economy highly dependent on trade, the trend signals the stark economic management challenges ahead that bring to mind Maynard Keynes insight on the powers of ideas to rebuild or harm economic progress. Kenya’s rough patch in 2023 is the subject of numerous misinterpretations among even the key drivers of policy articulating Kenya’s short-, medium- and long-term development.
Even the current contractionary stances on both fiscal and monetary policy are colossal mistakes, raising more questions than answers about the outcomes the government promises and plans to achieve. The short run of this trajectory produces delusionary gains for some while others are losers.
The core of the shilling/GDP nexus can be illustrated with arithmetic extremes. Supposing Kenya (K) produced only coffee (100 units, all exported) and imported all its consumption goods (say 100 units of rice) from Oceana (O). Let the initial export/import price index be 1.
If a shilling depreciation causes the price of rice in shillings to double for Kenya, it can only with its sup-plies of 100 units of coffee, paying in shillings, import ½ of its rice supplies (50 units). Unless it doubles coffee production to 200 units, increases taxes to top up payments, borrows or combines purchases with sales of assets, and so on, Kenya’s standards of living must fall and the economy must contract.
This is the policy dilemma the Kenya Kwanza government faces today, no matter how much it wrestles taxes, attempts to evade the looming vulnerability assessments, or borrows to pay myopically incurred public debt. From concentrating energies on aggregate demand management, as if we had resolved our supply side problem to drive output (that would engage the increasing army of even highly skilled but unemployed people), we must shift intentionally to supply-side measures increasing output under the appropriate policy mix. Noises heard from political tents, like “belt-tightening”, “everybody must pay taxes”, and “give us time”, are red-herrings, a subterfuge of politicians circumventing a suffering people.
Open economy
In the meantime, even the adjustment to the shilling slide and transition to output-led regrowth will need extreme competencies. As an open economy, we are price takers for imports while the dollar prices of imports remain unchanged after shilling depreciation. Domestic prices double, but since they may not in the short run match the depreciation, exporters enjoy increased profits off their workers and sales in dollars.
Similarly, importers increase profit margins off the doubled domestic prices without commensurate increases in domestic costs of business. In long-run adjustments, however, the depreciation may have no effects on real variables – real exports, real imports, real output, and employment An output-led framework stabilises the exchange rate, soaks up investment and employment, raises output and gives a chance of progress to future generations.
