SECTIONS

Of debt, moral hazards and governance

Debt forms the second leg of the three-legged stool that is funding in Kenya's public finance. The other two are taxes and donor funding. National debt can be a potent moral hazard to any leadership and while it may be a truism that there is no such thing as a free lunch, an apparent exception appears to exist for national debt ....until one speaks to the Greeks.

In case you've been out of town or country, last year we nearly doubled our national debt from Sh1.88 trillion to over Sh2.4 trillion - that is 24 followed by eleven zeroes. However, what we did is increase the limit on our collective credit card.

A small detail not mentioned at the time is that we were already in debt to the tune of about Sh2.23 trillion and the debt limit increase was more about correcting the accounts by signing an old IOU than getting new money.

For perspective Sh2.4 trillion translates into a Sh60,000 IOU tag on the forehead of every man, woman and child in Kenya. Even with our rebased GDP of $55.2 billion and its related GDP per capita of $1,246 (World Bank 2014) (Sh113,760) each of us now owes about 52.7 per cent of our average annual income.

While this Debt-to-GDP ratio may be an admirable number by international standards given it is well below what is considered a comfortable ratio of 70 per cent, there are good reasons to tell a cautionary tale about financial governance.

Take our 'Brazil-esque' income distribution scenario for example. Forty-six per cent of us live below the poverty line, that is, on less than $365 per year - a very conservative estimate at that.

Thus, this group is mortgaged to the tune of 180 per cent or about twice its meagre annual income of Sh33,288. Consequently, the other barely-better-off half - the 54 per cent - owes Sh86,712 per head as it shoulders both its share of the Sh60,000 IOU plus the shortfall of Sh26,712 the other half can't pay!

Given also that the poorer half rarely pays taxes, the incidence of the debt burden falls disproportionately on a relatively small tax paying core of citizens. Thus because of our skewed income distribution, the real Debt-to-GDP ratio on a per capita basis is actually much much worse.

The national debt is not an academic notion. It is as painful in its effects on our national and personal well being as it is insidious if misused. Consider our current interest payment obligations.

In the 2012-13 financial year, the national government's audited accounts showed that we spent Sh119.7 billion on interest payments, while we spent Sh402 billion on development, building roads, schools and hospitals.

Thus we effectively diverted the equivalent of 30 per cent of our development budget to just tread water in a sea of debt. Truly wise is the Good Book when it counsels that the borrower is a slave to the lender.

So why the fuss? Debt is a moral hazard. A moral hazard is an inherent conflict of interest that arises when you are likely to benefit from the commission or omission of an act for which you have passed the risk onto someone else.

A common example of this is the perverse effect on your attitude to risk of, say car theft, after taking out a comprehensive insurance policy cover.

Such insurance can invite a certain carelessness to your driving habits as the consequential cost of misbehaviour is now 'covered'. Should the risk eventuate, someone else will pay the bill.

Only problem: a careless attitude could one day cost you ... your life! It is no different with national debt.

New debt can easily be diverted to non-productive uses and rather than reduce poverty by increasing our stock of productivity-enhancing assets, it increases poverty by reducing our disposable income in the future as our repayment obligations rise over time.

Why? Because debt is essentially selling one's future income to access or acquire an immediate benefit.

Thus, there is good debt and bad debt. Good debt borrows to invest bad debt borrows to consume. The former invests in increasing the stock of productive or productivity-enhancing assets.

Thus buying a good lawn mower may be expensive, but it will do more in a day than a bevy of 'kanjo' (city council) grass slashers.

Unlike personal debt, national debt survives its initiators in perpetuity. If misused, future repayment obligations can cripple a nation. Alongside corruption, bad debt can be doubly deadly to an economy.