Bank’s investment strategy sees Kenya as ‘economic powerhouse’

The Bank said in its Country Strategy Paper for Kenya (CSP) for 2014-18 that it wants to work with development partners and the private sector to “leverage funding” for infrastructure development in Kenya, rather than act as a sole financier.

The CSP said Kenya has significant potential to further capitalise on regional markets and strengthen its position as East Africa’s “economic powerhouse”. According to the CSP, there is “an urgent need to strengthen Kenya’s private sector as the main engine of economic growth”.

The CSP said Kenya’s peaceful political transition following national and county elections held in March 2013, in addition to a devolved system of government, is underpinning the country’s positive economic outlook. However, the devolution process still faces challenges, CSP said.

Devolution effectively started in March 2013 with the election of county governments. The fiscal year (FY) 2013-14 total budget of 1.6 trillion Kenyan shillings ($18.8 billion) is the first budget to implement the devolution process, from which an amount of $2.4bn has been set aside for the 47 counties, AfDB said. This amount was distributed to the counties on the basis of a revenue sharing formula, which took into account their diversities.

According to AfDB, the main challenges to implementing devolution to date include large budget deficits – as the funding requirements of many county investment and development plans exceed the transfers received from central government. The CSP said: “The deficits might be mitigated by raising local taxes, to which the counties are entitled to by the constitution. However, with the exception of property and entertainment taxes, other local taxes require authorisation by parliament.”

The growth of Kenya’s gross domestic product (GDP) in recent years has been moderate, remaining below the average of East African countries. The CSP said Kenya’s economy is service-based, “with a relatively small industrial sector”. In 2013, agriculture contributed 20.7% of real GDP, the industrial sector 15.9% (of which manufacturing contributed only 9.5%), and services 63.4%.

In terms of recent growth performance, GDP grew by an annual average of 3.7% over the last five years, with agriculture growing by just 0.6% and the industrial and services sectors by 4.0% and 4.5%, respectively, the CSP said.

The CSP added: “The short-term outlook is positive, with projected GDP growth of around 6-6.5% over the next three years, mainly driven by higher private-sector investments and increased exports. Services, especially finance, information communication technology and construction, are expected to be the key drivers of GDP growth.”

Discoveries of oil, gas and coal in 2012 “might have the potential to boost Kenya’s overall socio-economic development”, the CSP said, but exact deposit quantities as well as fiscal and economic impacts “are yet to be fully estimated”.

Key challenges for Kenya’s emerging extractive sectors include “outdated legislation, limited capacity for negotiating exploration contracts, and potential conflict over management of resources between national and county governments,” according to the CSP.

However, the CSP noted that the national government had reviewed legislation and renegotiation of contracts. Ministers had also expressed their intention to sign up to the Extractive Industry Transparency Initiative (EITI) – an international ‘coalition’ of governments, companies and civil society working to improve openness and accountable management of revenues from natural resources.

According to government estimates, extractives currently contribute just one per cent to Kenya’s national income, and less than two per cent of export earnings. The AfDB said in December 2013 that the sector could grow to 10% of GDP.

The CSP also commended “sound macroeconomic policies” implemented nationally. Figures in the CSP show that Kenya’s budget deficit has been maintained at an average of 4.9% of GDP over the last 5 years, although at a level of performance below that of its East African neighbours.

The deficit is projected to narrow to below 4% in the short term, “mainly on account of continued fiscal discipline and increased revenue from improved tax collection under Kenya’s Public Financial Management (PFM) Act 2012 and the Value Added Tax (VAT) Act 2013, while rationalising recurrent expenditure”, the CSP said. Kenya’s tax revenue to GDP ratio of about 20% in recent years “has been high by regional standards”, compared to Tanzania’s 18% and notably, Uganda’s 13%.

However, the CSP warned that the “strong structural imbalance” of Kenya’s exports and imports makes the country “vulnerable to exogenous shocks and represents a significant risk to macroeconomic stability”. Over the last five years, exports averaged 27% of GDP with almost half going to Africa. Imports averaged 46% of GDP, mainly originating from India, the United Arab Emirates and China.

Kenya’s foreign direct investment (FDI) remains behind its neighbours, CSP said, although investment levels have increased from $605 million in 2009 to an estimated $994m in FY 2012-13. According to the CSP, FDI is projected to increase to more than $1.2bn in FY 2013/14, mainly due to investment from the five BRICS major emerging national economies (Brazil, Russia, India, China and South Africa) – especially India and China in emerging extractive industries.

AfDB said one of its key objectives to support future growth in Kenya is to create job opportunities “by establishing a more conducive environment for the private sector through investments in physical infrastructure”. Specifically, AfDB said it would target investment to increase access to more affordable and reliable electricity, improve transport systems, cut transport costs and enhance access to more reliable water supplies.

Projects will include “systematic gender analyses” to ensure investments also foster gender equality, AfDB said.