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Let’s manage our public debt more prudently

By Kamotho Waiganjo | July 12th 2015

Last week’s emphatic “No” vote by the Greek populace essentially rejecting European “conditionalities” for further financial support, has sent shock waves into many financial capitals including our own.

In addition to the negative effect that an economically fragile Europe would have on our economy, the Greek crisis is a warning on the dangers of excessive public debt unsupported by a productive economy. Many warnings have been sounded over the last few years that the level of public debt as a ratio of GDP in Kenya is growing too fast.

The Parliamentary Budget Office and lately even the National Treasury have expressed caution not so much at the absolute Debt/GDP ratio, which at 49 per cent when compared to Greece’s 180 per cent is still manageable, but with the level of escalation of the ratio in the last few years.

For the uninitiated and pseudo economists like myself, the Debt/GDP ratio refers to the relationship between what a country owes against what it produces. The ratio is an essential component that investors consider in determining whether a country’s economic future is stable and therefore a safe investment haven. Between 2012 and 2015 Kenya’s ratio has increased from 42 per cent to 49.8 per cent, a worrying growth pattern.

Though this ratio is not Kenya’s worst record; in 2000 and 2006 the ratio was at 78 per cent and 58 per cent respectively, what is of concern is both the rate of escalation and the recognition that the current ratios are based on a rebased economy where the size of the GDP was restated by 25 per cent last year. Without the rebasing the picture wouldn’t look too good.

I must at the outset make it clear that debt in itself is not bad; indeed it is as much a necessity for governments as it is for business. Debt allows one to borrow for current expenditure against the promise of future returns. Any business that wants to grow will usually either use its savings, its shareholder’s equity or borrow to invest in growth. In the same manner, countries will either use their reserves, locally generated revenue, generally obtained through taxation, to invest for growth, or borrow.

Since countries like Kenya have nearly zero reserves and a weak tax base relative to their developmental needs, they must seek funds from local and external sources to fund their development. What then matters are the investments the borrowed monies fund. One of the problems of the Greek debt was that it was used to fund politically popular causes, including a generous pension scheme and extensive subsidised or free public services. Little of the debt went to productive investments.

The question then for Kenya is not so much how much we are borrowing but whether we are putting the borrowed funds into productive sectors. A review of our debt portfolio in the last three years shows that a significant part of the debt is being used to fund new infrastructure projects, from new roads to the refurbished airport and the SGR railway. If none of these funds are either stolen or wasted, the returns on these investments should in the long term grow our economy and enable us comfortably pay off our debts. Even if our ratio was high, there would still be confidence in the economy since it would be clear we are growing. If however any of these funds go into recurrent expenditure or are being stolen, then our own Greece is not too far off.

There is another worrying trend related to the debt situation that can also impact our economy negatively and stagnate it. This relates to the huge deficits that have now become a regular feature of our annual budget. Inevitably such deficits will be funded through borrowing, most of it locally. Local borrowing makes the state a competitor for scarce local savings thus crowding out local private investors.

Their capacity to obtain funds for productive investments is thereby prejudiced. The net effect of this is a stagnating economy. We may not be on danger zone yet and our Greek moment may be a while off but unless we look out for these two dangers defined by debt and deficits, our day of reckoning cometh soon.

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