IMF says Kenya may pay price at debt markets for wide fiscal gap

The International Monetary Fund said Kenya’s failure to narrow its fiscal deficit may push up the costs of tapping international credit markets.

East Africa’s biggest economy projected a funding gap of 692 billion shillings ($6.8 billion) for the fiscal year starting in July, Treasury Secretary Henry Rotich said in his budget speech last week. That’s about 9 percent of gross domestic product compared with 7.9 percent this year, according to the Washington-based lender’s resident representative, Armando Morales.

The deficit “is not consistent with fiscal consolidation,” Morales said in an interview on Thursday in the nation’s capital, Nairobi. “The plan was that Kenya would move to a process of fiscal consolidation and that is still our expectation.”

Kenya increased its spending plan by 28 percent to 2.3 trillion shillings for 2016-17. It plans to borrow 225 billion shillings in the domestic market and another 462 billion shillings from external creditors through bonds and concessional loans. The budget deficit has widened since Uhuru Kenyatta became president in 2013 as his government rolled out infrastructure projects including a $3.2 billion railway that’s been the biggest investment in the economy since independence more than half a century ago.

The country should be targeting a reduction in its fiscal deficit of 3 percentage points over the next two years as part of commitments made when the IMF extended a $1.5 billion precautionary facility in March to cushion the economy in times of shocks, the IMF official said. Traditionally, the country spends less than it budgets and a clearer fiscal outlook will emerge later in the year, Morales said.

Difficult Negotiations

Kenya has “a more positive story” than other frontier markets and investors still have an appetite for the $61-billion economy, Morales said. The ballooning deficit will, however, make for tougher negotiations when the government starts discussions for foreign debt, he said.

As long as the deficit announced by the government is larger than it was the previous year, “it would be more difficult to approach creditors in global markets,” he said. “That doesn’t mean that they won’t have access, but that normally translates into more expensive financing.”

Domestic Treasury yields have dropped to almost three-year lows as a banking crisis following the collapse of three small lenders has caused big banks to seek the safety of government securities. The return on Kenya’s three-month Treasury bill has fallen 337 basis points this year to 7.3 percent, the lowest since July 2013, according to central bank data. The government still has choices for raising external debt and can borrow cheaply from its liquid local markets, Morales said.

Kenya raised $2.82 billion at debut Eurobond sales in 2014 and is reviving plans to tap the bonds market again. Rotich held a no-deal roadshow in London in April and plans more in the U.S. to weigh investor sentiment. The country also raised $750 million in a syndicated loan to alleviate a cash crunch last year and another $600 million from China.

Yields on the dollar-bond due June 2024 were at 8.5 percent on Thursday from as high as 9.8 percent in mid-January.

“I don’t think availability will be a problem,” Morales said. “It’s the terms of financing and the risks that is higher, because vulnerability to adverse global developments will be a bit higher the larger the deficit is.”