THE HIGH DEBT CEILING IN KENYA - WHAT IT MEANS AND HOW IT CAME ABOUT

William Ruto, the newly elected president of Kenya, has taken legal action to borrow for his grand economic plans after Congress recently raised the country's sovereign debt ceiling to KSh 10 trillion ($100 billion).

 The new government says the country is bankrupt, but Kenya is already living beyond its means and the World Bank has warned it is at high risk of defaulting on its debts.

Had the debt ceiling explained and why Kenya needs to pay more attention to this.

WHAT DO WE KNOW ABOUT THE DEBT CEILING? 

Let's understand what the national debt is. 

Article 214(2) of the Kenyan Constitution defines public debt as all financial obligations arising from loans borrowed or guaranteed and securities issued or guaranteed by the Central Government. Governments must borrow money to pay bills when revenues alone cannot fund all activities.

The government debt ceiling is the statutory ceiling for a country's government debt.

 Emerging and developing countries are recommended a debt limit of no more than 64% of the country's output (gross domestic product or GDP).

 In Kenya, the government debt ceiling is set by the Public Financial Management Act 2012. 

Section 50(2) of the Act limits the borrowing of the Central Government to limits set by Parliament. This provision was recently amended to allow the government to cross the border in certain circumstances. 

Situations include devaluation of shillings, material balance of payments imbalances, or budget disruptions caused by war, health pandemics, or national disasters. Another change would make the Treasury Department responsible for advising Congress on annual borrowing limits. Therefore, the government now has the flexibility to adjust the borrowing limit annually.

My concern is that the flexibility introduced by these new amendments could be exploited by irresponsible governments.

 Before exercising this flexibility, the Treasury Chief Cabinet Secretary must brief the Diet on the situation and present a time-bound plan to remedy the cap violations. Therefore, if the National Assembly is not unduly influenced by the executive branch, all will be well.

WHAT IS KENYA'S GOVERNMENT DEBT CEILING? 

National finances are governed by the Public Financial Management (National Government) Regulations 2015, which set a cap at 50% of present value GDP. The Treasury recently proposed changing the limit to 55%.

 The proposed changes imply a debt ceiling of about KSh 8,600 billion in 2022. This figure is calculated using the official forecast of economic output of KSh 12.1 trillion in 2021 and a projected growth rate of 6% in 2022. Kenya has already exceeded the proposed cap. The Treasury estimates the present value of Kenya's public debt to 2022 GDP at 64.5%. This number exceeds the proposed 55% cap.

High debt consumption drives annual debt service costs to around 54% of domestic revenues. This is a 14% increase compared to 2020 where he was around 40%. 

WHAT ARE THE WARNING SIGNS THESE DAYS? 

Governments appear to be indebted beyond national means, given that the majority of revenues are being spent on debt servicing. 

There is also growing concern about shifting the composition of government debt towards external debt (lenders outside Kenya).

 External debt burdens are higher than usual as they deplete foreign exchange reserves. This could cause the value of the shilling to fall.

External debt accounted for about 50% of total government debt in June 2022, up from 45% in March 2013.

 More expensive trade debt accounted for over 25% of external debt in June 2022. 

 In effect, the continued depreciation of the Kenyan shilling and the post-COVID-19 economic downturn have exacerbated the external debt burden.

A deterioration in the overall debt burden has prompted the International Monetary Fund to downgrade the country's debt risk to moderate to high in 2020, just two years after it was downgraded to low to moderate in 2018. 

 Downgrading a country's debt risk increases the country's borrowing. You can spend less on other economic programs.

HOW DID KENYAN GOVERNMENT GET THIS?  

Kenya has never experienced such a high level of debt in recent history. The growing national debt burden is due to many causes.

 First, official sources point to increased infrastructure spending, increased recurring spending (payments of regular expenditures such as public wages and interest on loans), revenue shortfalls, and institutional capacity to manage public spending.

Second, increasing reliance on short-term commercial external debt (debt that needs to be repaid quickly) puts pressure on governments to refinance more frequently and on worse terms. 

This means that existing debt must be replaced with new debt at a higher interest rate. Rising interest rates show that lenders are more interested in getting their money back.

In June of this year, the government had to abandon a planned KSh 115 billion Eurobond issuance as yields rose above 12.5%, making repayments too high.

Third, the government blames unexpected economic shocks such as the drought and his COVID-19.

 Fourth, critics point to financial inadequacies as another possible reason. They point out that infrastructure and social spending growth has not matched debt growth since 2013, and there is no good record of debt spending.

 THE IMPORTANT OF DEBT CEILING

The ceiling is set to allow countries to use their public debt in a sustainable way. 

Debt sustainability is about the ability of a country's current and projected future incomes to cover its debt service costs.

Debt ceiling violations represent the potential for national debt to become excessive and unsustainable. 

Government debt is considered excessive when it significantly reduces the amount of goods and services available to future generations and can cause a country to lose or limit access to finance.

WHAT ARE ECONOMIC CONSEQUENCES WHEN USED PUBLIC DEBT?

First, debt service reduces the resources available to fund other government programs. 

Second, it means governments cannot afford to stimulate economic activity, for example by cutting taxes or providing social assistance to citizens. 

An example of social assistance is a cash transfer to a deceased pensioner. 

Third, government borrowing essentially shifts wealth from the poor who pay high taxes to pay off their debts to the rich who lend money to the government and earn interest. 

Excessive public debt therefore widens the welfare gap between the rich and the poor.

 Fourth, research suggests that excess public debt is detrimental to long-term economic growth. 

Finally, one of the most painful consequences of overindebtedness is the potential for default, as has happened recently in Argentina and Zambia. 

Defaults can lead to loss of sovereignty as creditors demand austerity (budget cuts) as part of debt restructuring agreements. Kenya has some lessons to learn from such unfavorable incidents.