Why is Kenya Still in Debt Distress Despite Eurobond Repayment?

Kenya still faces a significant risk of debt distress despite a Sh218.53 billion ($1.5 billion) new Eurobond issue that helped to calm foreign investor jitters over the possibility of the country defaulting on the repayment of its debut $2 billion (Sh291.38billion) Eurobond that is maturing in June.

The Parliamentary Budget Office (PBO) said the economy is still in danger of a liquidity crisis with its key debt sustainability indicators, including debt service-to-revenue ratio and debt-to-gross domestic product (GDP) ratio headed south.

This is amid falling revenue collections and surging debt repayment costs.

“Moreover, a significant risk of debt distress persists, primarily arising from liquidity risks, while debt dynamics remain susceptible to fluctuations in exports, exchange rates, fiscal conditions, and natural disasters,” the PBO said.

“Moreover, the escalating cost of debt poses a substantial challenge for the repayment of both external and domestic obligations. As the repayment burden increases, the country faces potential funding constraints, emphasising the need for strategic measures to mitigate these challenges and ensure sustainable financial stability.”

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Kenya’s public debt increased by Sh1.93 trillion to Sh11.14 trillion last year from Sh9.2 trillion in 2022.

The total debt service amounts stand at 58.8 percent of revenues, leaving only 41.2 percent of tax revenue to finance government development programmes.

The ratio of debt as a share of GDP, in nominal terms, has risen from 65.8 percent in 2019/2020 fiscal year to 71.8 percent in June 2023.

The PBO says the persistent revenue shortfall and increased cost of funding could undermine the country’s implementation of key government projects.

According to the Economist Intelligence Unit, Kenya’s debt dynamics shifted in 2020-2022, when the country turned to concessional multilateral borrowing from the IMF, the World Bank, and the African Development Bank, to help deal with the impact of the Covid-19 pandemic.

In the first half (July-December) of the 2023/24 fiscal year, the government’s total exchequer revenue fell short of the target by Sh187.6 billion from a projection of Sh1.45 trillion to actual receipts of 1.26 trillion.

The underperformance was largely a result of shortfalls in income tax of Sh88.1 billion, value-added tax of Sh25.3 billion, and other losses in import duty of Sh19.5 billion and excise duty of Sh.29.1 billion.

“This trend points to an overall deviation of 13 percent from the target, implying that by the end of June 2024, government revenues are likely to underperform by Sh 330 billion,” says the report.

Last week, the Treasury raised $1.5 billion through a Eurobond issued expensively to global investors to help buy back its $2 billion Eurobond that was issued in 2014 and is maturing in June.

On the new seven-year bond the government will pay interest at an annual rate of 9.75 percent compared to a rate of 6.875 percent on the maturing 2014 issue.

“Further, the upward adjustment in the pricing of government debt, driven by factors such as heightened country risk, volatile international financial markets, elevated global interest rates, and depreciating Kenya shilling, has significantly increased the cost of borrowing for the government,” according to PBO.

“In the current global macroeconomic environment, the decline in international appetite for Kenyan government bonds is pronounced, with investors now demanding a premium to offset the perceived risks.”

According to the report, the Kenya shilling is likely to continue losing value for the better part of the year and may shed as much as 21 percent of its value by the close of the year due to the ripple effect of high US interest rates and geopolitical tensions that have triggered capital flights in pursuit of higher yields and safer investments, and the rising cost of imports, which will increase demand for dollars.

Kenya’s economic growth has averaged 4.6 percent over the past five years, falling short of the 10 percent economic growth rate per annum targeted under the government’s long-term development plan dubbed Vision 2030.

According to PBO, a bleak global economic outlook has exposed the Kenyan economy to external shocks, from the surge in oil prices to the slowdown in debt markets and disruptions in global food chains due to escalating geopolitical tensions.

“The weight of financial constraints adds a layer of complexity to the risks faced by Kenya’s economy,” it says.

Last year (2023) the Nairobi Securities Exchange (NSE) experienced a decline of 27.5 percent, resulting in a decrease of Sh 547 billion in paper wealth, as the prolonged bear run continued to impact investors’ equity portfolios.

Market data reveal that the NSE concluded the final trading day of the year with a valuation of Ksh1.43 trillion, down from Ksh1.98 trillion in 2022.

The erosion of investor confidence and reduced capital formation stemming from the struggling stock market collectively contribute to a challenging economic landscape for businesses across sectors.

In October 2023, the Parliament passed an amendment to the Public Finance Management (PFM) law, replacing the Sh 10 trillion public debt numerical ceiling with a debt anchor set at 55 percent of GDP in present value terms that are expected to be achieved by 2029.

—Business Daily