Jaindi Kisero
31 December 2003
Nairobi — Despite all the political infighting dominating the headlines, the Narc Government has been working quietly on fixing the economy. There have been some bold decisions and notable gains, but the Government clearly underestimated the task at hand.
President Mwai Kibaki inherited an economy which had suffered subdued activity for a long period. Although macro economic conditions, including inflation, interest rates and the exchange rate, remained fairly stable, it was an economy which had endured recessionary conditions for a long time.
Statistics for the previous three years before the new Government took over bear this out.
In the year 2000, the economy grew by 0.2 per cent. The growth rate for 2001 was 1.2 per cent and 1.1 per cent in 2002.
Indeed, the performance of the economy during the past decade had been well below its potential. It is noteworthy that by 2002, real per capita GDP was lower than it was in 1990 and poverty much more prevalent.
The performance was deplorable indeed considering that this was an economy which had experienced a period of rapid growth in the second half of 1980s, when average growth (between 1985 and 1990) reached 5.5 per cent per year.
Briefly stated, the main causes of the lethargic economic conditions which Narc inherited from the government of former President Daniel arap Moi were the following: inadequate State expenditure on education, health and agriculture, low savings and capital formation, poor infrastructure, a weak and inefficient banking system, an unpredictable judicial system, a rigid labour market and endemic corruption.
Thus, an objective assessment of the performance of Narc in its first year of government is not possible unless it is looked at against this background.
Indeed, so deep has been the economic slump that mere quick-fixes would not do.
What have been the major highlights of Narc's first year in office? The most dramatic has been the total collapse of the Treasury Bill rate.
Throughout the year, the Treasury Bill rate has been below two per cent. Also dramatic has been the excess liquidity in the money market and the consequent high level of prices in stocks of blue chip companies.
Not surprisingly, Government officials have been touting both the collapse of the Treasury Bill and the excessive liquidity in the money market as some of the major achievements of Narc's first year in power.
In a sense, they are right because the fall of the Treasury Bill rate is a direct result of the decision by Finance minister David Mwiraria to reduce the cash ratio from 8 per cent to 6 per cent. Consequently, billions of shillings were released into the market with banks suddenly finding themselves with too much cash in their vaults.
The flipside, however, is that this excess liquidity has not led to increased access of cheap loans to customers. Although banks have reacted to the changed situation by demonstrating better willingness to provide loans to customers, actual loans have not grown because of high lending rates.
The spread between deposit rates and lending rates remains very high.
Except for the first half of the year when inflation increased due to an increase in food and fuel prices, it has gradually decelerated in the second half of the year and is now stable and fairly predictable.
Helped by increasing horticulture and Agoa-induced exports and a fall in imports, the balance of payments position has remained healthy and foreign exchange reserves have been rising.
In June, official reserves covered 3.8 months of imports of goods and services, compared with 3.2 previously.
Although the Government will in the new year be going before the Paris Club to ask for rescheduling of loans, Kenya's external debt remains manageable by international standards.
In fact, the picture one gets is that external debt service obligations are on declining trend.
Still, the prospects for the year are - at best - modest. Indeed, the macro economic stability which the Government has achieved this year masks significant weaknesses in the economy which have been behind the low growth rates during the past decades.
Narc is yet to make a significant move towards redressing the structure of public spending and to make sure that the Government spends more on investment in roads, agriculture, education and health than on wages for civil servants.
President Kibaki will be starting his second year in government with a budget that is still highly skewed in favour of wages and recurrent expenditure and that leaves little money for capital expenditure. Problems have been compounded by the salary increases which the Government announced for teachers and members of Parliament in the year.
The situation is such that although Narc has taken significant decisions towards dealing with corruption, investment response to the improved governance situation has remained weak due chiefly, to uncertainties in the political environment.
Neither has Narc made any significant achievements in reducing the high level of domestic debt. Billions of shillings which should go to financing infrastructure and social expenditure are still consumed by the ballooning domestic debt.
The statistics are grim indeed. The size of the domestic debt is now estimated to be equivalent to 25 per cent of GDP, while interest payments consume 14 per cent of total government revenue.
In addition to this, the Government has billions in liabilities arising from bank loans, overdue pension contributions and public borrowings.
Other problem areas include pending bills and stalled projects. Arrears of the bills continue to pile unpredictably and remain as contingent liabilities in government books.
Neither have there been any radical reforms in the tax regime. The regime remains too complex, with many exemptions, while tax rates, especially excise, direct taxes and withholding taxes of foreign remittances are still too high.
The tax base remains narrow and compliance rates are still low, as demonstrated by the prevalence of tax arrears.
On the positive side, the government's commitment to improving economic governance has been strong and visible. It has enacted, or is in the process of enacting major anti-corruption bills.
They include the Anti-Corruption and Economic Crimes Act and the Public Officer Ethics Act. Cabinet approval has also been given to public procurement, public audit and government financial management Bills. These bills have been published and are awaiting deliberation by Parliament.
In addition, the government has initiated work on judicial reform focused on rooting out corruption in the Judiciary and improving access to justice.
In terms of fiscal sustainability, the recent resumption of aid will make the government's budgetary situation more comfortable than it was this year.
With a three-year programme with the International Fund having been signed and relations with the World Bank and bilateral donors on track, the Sh60 billion budgetary gap is bound to get smaller.
The gap can now be financed by domestic borrowing and perhaps external rescheduling of loans.
Indeed, it is the inflows of donor funds which will allow Narc to start the process of reallocating resources towards spending priorities listed in the Economic Recovery Programme.
In terms of reforms, the coming year will be a great deal more challenging. The deal struck with the donor community will entail important institutional changes, preparation and enactment of new legislation and privatisation of infrastructure services and civil service reforms.
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