Kenya - iuj.ac.jp · Kenya 1 Country Report August 2004 ' The Economist Intelligence Unit Limited 2004 Contents Kenya 3 Summary 4 Political structure 5 Economic structure 5 Annual

Country Report

Kenya

August 2004

The Economist Intelligence Unit15 Regent St, London SW1Y 4LRUnited Kingdom

Kenya at a glance: 2004-05

OVERVIEWThe president, Mwai Kibaki, and the National Rainbow Coalition (NARC)government are committed to extensive reforms with the aim of revivingKenya!s moribund economy. Divisions within NARC will test the president!spolitical skills. The proposed new constitution will remain one of the mainbattlegrounds in Kenyan politics. The fight against corruption is expected togain momentum, and several high-level prosecutions are likely in the forecastperiod. A new, three-year, US$250m IMF facility has led donors to pledgesupport of US$4.1bn over the next three years to support the government!seconomic recovery strategy. The amount is greater than expected but, based onrecent experience, not all pledges will be fulfilled, even if Kenya remains incompliance with IMF conditions.

Key changes from last month

Political outlook• Political prospects remain unchanged from last month.

Economic policy outlook• Kenya�s relations with key donors have reached a crucial juncture and

unless the government provides clear evidence that it is prepared to takefirm action against "new", high-level corruption, it could lose a substantialamount of foreign support. The EU and the IMF "deferred" disbursement ofUS$59m and US$36m, respectively, in mid-July, and although donor supporthas not been frozen or suspended, this sends a clear message to the regimethat further failures to improve governance will not be tolerated.

• The budget deficit forecast of KSh57.9bn (US$720m) for fiscal year 2004/05(July-June) has now been revised upwards to KSh63.4bn, largely because ofdelays in the receipt of donor funds.

Economic forecast• The Economist Intelligence Unit!s real GDP growth forecast for 2004 has

been revised down from 2.7% to 2.5%, because of the deferral of non-projectfunding from key donors, as well as the serious drought now affecting manyparts of the country. Real GDP growth of 3.7% is forecast in 2005 asagriculture benefits from reform, better transport links and normal weatherconditions.

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Kenya 1

Country Report August 2004 www.eiu.com © The Economist Intelligence Unit Limited 2004

Contents

Kenya

3 Summary

4 Political structure

5 Economic structure5 Annual indicators6 Quarterly indicators

7 Outlook for 2004-057 Political outlook8 Economic policy outlook10 Economic forecast

13 The political scene

18 Economic policy

23 The domestic economy23 Economic trends25 Agriculture and horticulture27 Industry27 Mining27 Transport and communications30 Financial services

30 Foreign trade and payments

List of tables10 International assumptions summary13 Forecast summary21 Government finances, 2004/0523 Gross domestic product by sector24 Government finances, Jul-Apr25 Inflation, 200425 Exchange rate26 Cash crop production, Jan-May30 Balance of payments (year to April)

List of figures

13 Gross domestic product13 Consumer price inflation

Kenya 3


KenyaAugust 2004

Summary

The president, Mwai Kibaki, will continue to try to break the political deadlockover the new constitution that threatens both his presidency and the prospectsfor comprehensive economic and social reforms. Internal political wranglinghas worsened and the outlook period is expected to be marked by continuedtension and uncertainty. Donor-supported market-oriented reform will continueto shape economic policy, but progress will be slow. Real GDP is now forecastto grow by only 2.5% in 2004, owing to the deferral of non-project funding fromkey donors, as well as the serious drought now affecting many parts of thecountry. Economic growth is forecast to rise to 3.7% in 2005 as agriculturebenefits from reform, better transport links and normal weather conditions.

The Kibaki regime has confronted its first outbreak of civil unrest following thepresident!s failure to enact a new constitution by his promised deadline of end-June. To strengthen his position within the government, the president hasannounced his first cabinet reshuffle, which has brought in members of theopposition. Foreign diplomats have expressed concern that power struggles areundermining the legislative programme needed to bring about reforms,effective governance, and the adoption of a new constitution.

Kenya�s relations with key donors have reached a crucial juncture"both theIMF and EU "deferred" disbursement in mid-July"following the government!sfailure to improve governance and get the privatisation bill passed. The budgetfor fiscal year 2004/05 (July-June) contained no major surprises or newinitiatives, but made a fresh commitment to implement promised reforms. Butthe forecast budget deficit for 2004/05 has already been revised from KSh57.9bn(US$720m) to KSh63.4bn, because of delays in the receipt of funds.

Real GDP growth picked up in the first half of 2004, thanks to higherconstruction and services activities. An early end to the long rains has causedcrop failure and the government has declared a "national emergency". Highertransport and energy costs and food prices have also stoked increasedinflationary pressure. The government has reduced its stake in KenyaCommercial Bank, but the licensing of a second national operator in thetelecommunications sector has been cancelled for the time being.

Kenya!s current account moved to near balance in the 12 months to April 2004,thanks to higher export, tourism and transfer receipts.

Editors: Pratibha Thaker (editor); David Cowan (consulting editor)Editorial closing date: August 8th 2004

All queries: Tel: (44.20) 7830 1007 E-mail: [email protected] report: Full schedule on www.eiu.com/schedule

Outlook for 2004-05

The political scene

Economic policy

The domestic economy

Foreign trade and payments

4 Kenya


Political structure

Republic of Kenya

Unitary republic

Based on English common law and the 1963 constitution; the draft of a new constitutionwas published in September 2002

Unicameral National Assembly of 210 elected members plus 12 nominated members, theattorney-general and the speaker; a multiparty system was introduced in December 1991

Next presidential and legislative elections are to be held in December 2007

President, directly elected by simple majority and at least 25% of the vote in five ofKenya!s eight provinces

The president and his cabinet, composed entirely of members of the National RainbowCoalition (NARC)

National Rainbow Coalition (NARC, 132 seats); Kenya African National Union (KANU,68 seats); Forum for the Restoration of Democracy-People (Ford-People, 15 seats); Safina(2 seats); Ford-Asili (2 seats); Sisi Kwa Sisi (2 seats); Shirikisho (1 seat)

President & commander-in-chief Emilio Mwai KibakiVice-president Moody Awori

Agriculture Kipruto Arap KirwaAttorney-general Amos WakoEast African & regional co-operation John KoechEducation George SaitotiEnergy Simeon NyachaeEnvironment & natural resources Kalonzo MusyokaFinance David MwirariaForeign affairs Chirau Ali MwakwereGender, sport & culture Ochillo AyackoHealth Charity NgiluInformation & communication Raphael TujuJustice & constitutional affairs Kiraitu MurungiLabour & manpower development Dr Newton KulunduLands & housing Amos KimunyaLocal government Musikari KomboNational security Chris MurungaruPlanning & national development Anyang Nyong!oRegional development Abdi MohamudRoads & public works Raila OdingaTourism & wildlife Karisa MaithaTrade & industry Mukhisa KituyiTransport John Njoroge Michuki

Francis Muthaura

Andrew Mullei

Official name

Form of state

Legal system

National legislature

National elections

Head of state

National government

Political parties in parliament

Key ministries

Head of the civil service

Central Bank governor

Kenya 5


Economic structure

Annual indicators1999 a 2000 a 2001a 2002 a 2003 b

GDP at market prices (KSh bn) 743.5 796.3 882.7 969.4 1,002.1GDP (US$ bn) 10.6 10.5 11.2 12.3 13.2

Real GDP growth (%) 1.3 -0.2 1.1 1.0 1.8 a

Consumer price inflation (av; %) 5.7 10.0 5.7 2.0 9.8 a

Population (m) 29.4 30.1 30.7 31.3 32.0

Exports of goods fob (US$ m) 1,756.7 1,782.2 1,891.4 2,162.5 2,493.3Imports of goods fob (US$ m) 2,731.8 3,044.0 3,238.2 3,159.0 3,714.3

Current-account balance (US$ m) -89.6 -199.4 -339.6 -136.6 -237.0Foreign-exchange reserves excl gold (US$ m) 791.6 897.7 1,064.9 1,068.0 1,481.9 a

Total external debt (US$ bn) 6.5 6.2 5.6 6.0 6.6

Debt-service ratio, paid (%) 25.7 18.7 15.8 14.1 11.7Exchange rate (av) KSh:US$ 70.33 76.18 78.56 78.75 75.94 a

a Actual. b Economist Intelligence Unit estimates.

Origins of gross domestic product 2003a % of total Components of gross domestic product 2002b % of totalAgriculture, forestry & fishing 25.7 Private consumption 71.5Manufacturing 14.0 Government consumption 19.0

Trade, restaurants & hotels 13.8 Gross domestic investment 13.1Transport, storage & communications 6.9 Stockbuilding 0.0

Government services 15.6 Exports of goods & services 26.2Others (net) 24.0 Imports of goods & services -30.6

Principal exports 2003a US$ m Principal imports cif 2003a US$ mTea 435 Crude petroleum 879

Horticultural products 351 Chemicals 591Coffee 81 Manufactured goods 497Petroleum products 4 Machinery & transport equipment 969

Main destinations of exports 2003b % of total Main origins of imports 2003b % of totalUganda 19.3 UAE 13.3UK 11.7 UK 7.4

Germany 7.9 Japan 5.2Tanzania 4.0 India 2.7

a Official estimates. b Actual.

6 Kenya


Quarterly indicators2002 2003 20042 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr

Central government finance (KSh m)Revenue & grants 62,337 48,564 51,545 58,342 67,241 59,047 62,839 60,366Expenditure & net lending 69,424 56,790 65,751 62,651 76,269 60,335 64,288 64,653Balance -7,087 -8,226 -14,206 -4,309 -9,028 -1,288 -1,449 -4,287

PricesConsumer prices, Nairobi (2000=100) 107.8 108.5 109.3 114.2 122.3 118.3 118.9 124.5Consumer prices, Nairobi (% change, year on year) 1.8 2.0 2.9 8.0 13.5 9.0 8.8 9.0

Financial indicatorsExchange rate KSh:US$ (av) 78.42 78.80 79.47 77.05 73.66 76.20 76.83 76.65Exchange rate KSh:US$ (end-period) 78.79 79.03 77.07 76.65 74.17 78.42 76.14 77.76Deposit rate (av; %) 5.58 5.14 5.21 4.71 4.31 4.0 3.51 n/aDiscount rate (end-period; %) 13.50 n/a n/a n/a n/a n/a n/a n/aLending rate (av; %) 18.54 18.14 18.02 18.78 18.45 14.95 14.11 13.20Treasury bill rate (av; %) 8.94 8.05 8.35 7.16 4.50 1.07 1.29 1.59M1 (end-period; KSh bn) 131.57 133.24 149.71 147.89 153.68 180.00 194.12 190.76M1(% change, year on year) 17.0 10.7 18.5 18.4 16.8 35.1 29.7 29.0M2 (end-period; KSh bn) 360.40 372.23 392.68 393.31 400.92 411.86 439.43 447.65M2 (% change, year on year) 8.2 7.9 11.7 11.5 11.2 10.6 11.9 13.8Stockmarket NSE 20 (1996=100) 1,087 1,043 1,363 1,608 1,935 2,380 2,738 2,771Stockmarket NSE 20 (% change, year on year) -34.4 -25.5 0.6 35.9 78.1 128.1 100.9 72.3Sectoral trends (annual totals; �000 tonnes)a

Tea production ( 287.0 ) ( 290.0 ) n/aCoffee production: unroasted ( 48.0 ) ( 64.5 ) n/aForeign trade (KSh m)Exports fob 43,333 41,423 41,061 50,054 44,289 43,225 45,553 52,902Imports cif -60,467 -59,517 -65,933 -70,008 -70,375 -69,654 -72,579 -76,195Trade balance -17,134 -18,094 -24,872 -19,954 -26,086 -26,429 -27,026 -23,293

Foreign reserves (US$ m)Reserves excl gold (end-period) 1,137.7 1,119.7 1,068.0 1,206.1 1,261.5 1,326.1 1,481.9 1,401.9

a Estimates.

Sources: Food & Agriculture Organisation; IMF, International Financial Statistics; Central Bank of Kenya, Monthly Economic Review.

Kenya 7


Outlook for 2004-05

Political outlook

The president, Mwai Kibaki, will continue to try to break the political deadlockover the promised new constitution, which threatens both his presidency andthe prospects for comprehensive economic and social reforms. Mr Kibaki�s first-ever cabinet reshuffle on June 30th was surprisingly retrogressive, in that itbrought elements of the opposition into government, including the Forum forthe Restoration of Democracy-People (Ford-People), and individual members ofthe Kenya African National Union (KANU), the former ruling party. Thepresident hopes to end his reliance on the Liberal Democratic Party (LDP), hiserstwhile coalition partner in the ruling National Rainbow Coalition (NARC).The pro-Kibaki faction in NARC"the National Alliance of Kenya (NAK)"willinstead rely on the votes of other parties. However, Mr Kibaki did not sack LDPministers, for fear of precipitating a wider political crisis, but demoted most ofthem in terms of ministerial responsibility. He has thus put the onus on theLDP to decide whether or not to stay in government.

Kenya�s government is neither one of "national unity", as the KANU hierarchydoes not approve of the "poaching" of its MPs, nor is it a true coalition anymore. LDP ministers are opting to stay in the government for the time being,but they will not be whipped into line (and will instead make voting decisionson a "bill-by-bill" basis), while nearly 30 backbenchers have decamped to theopposition. Mr Kibaki appears to have brought in enough votes to compensatefor this defection, but the situation will remain fluid and the parliamentaryarithmetic uncertain. The president will continue to face difficulty in pushingforward his legislative agenda, despite the reshuffle. By leaving himselfdependent on an even wider array of political factions, Mr Kibaki will be evenmore vulnerable to the shifting allegiances that characterise Kenyan politics. Heseems to be trying to achieve the impossible, by trying to please all of thepeople all of the time.

The LDP says that the lack of consultation over the reshuffle invalidates the"letter and spirit" of the NARC coalition. The partnership between the NAK andthe LDP was ostensibly built on a secret, pre-election Memorandum ofUnderstanding that guaranteed a 50:50 division of power and responsibilitybetween the two factions. By reaching out to the opposition, Mr Kibaki isshowing that he has no intention of abiding by the controversialmemorandum. The LDP are threatening a court case over the legality of thereshuffle, but the party is unlikely to prevail, even if it decides to go ahead withthe legal challenge. The LDP has not formally resigned from NARC, but itremains a member in name only, and will push ahead with plans to develop aseparate, new identity (possibly in an alliance with KANU) in time for the 2007presidential and legislative elections.

The proposed new constitution will remain one of the main battlegrounds inKenyan politics, and is a key factor behind the virtual collapse of NARC. Kibakisupporters will continue to try to ditch proposals in the "zero" draft that aim to

Domestic politics

Proposed new constitution

8 Kenya


curb presidential powers, but the LDP will continue to back the creation of thepost of prime minister, with executive powers, partly because the party wantsto secure the role for itself. It appears that the deadlock may soon be brokenand that the Kibaki camp will prevail (with conditions attached). It seems thatMr Kibaki�s "consensus-building" efforts are finally paying dividends, althoughnothing about the constitution can be taken for granted. Any alteration of the"zero" draft will probably preserve presidential powers, at least for a specifiedperiod. The "new" draft will then be subject to a referendum, after a nationalpublicity exercise lasting two to three months. But the entire process will takemuch longer, and the Economist Intelligence Unit does not expect Kenya tohave a new constitution much before 2006. It is not so much the delay that isdisturbing, but the uncertainty, and if Kenya can chart a way out of the currentquagmire, it would be very welcome.

Kenya!s relations with key donors are currently strained by perceptions that thegovernment is not doing enough to tackle corruption at the highest level ofgovernment, which has jeopardised aid flows. However, the government doesseem to be treating the matter with the seriousness it deserves, and willcontinue to try to improve ties with its major bilateral and multilateral partnersduring the forecast period. Kenya will also nurture regional relations withinbodies such as the Common Market for Eastern and Southern Africa (Comesa)and the East African Community (EAC). The ongoing threat of terrorist attacksby Islamists in the Horn of Africa will ensure that the country!s close ties withthe US remain high on the agenda. The government continues to press for afinal lifting of the negative US travel advisory imposed in 2003 but, althoughthe wording of the advisory has been greatly modified in response tostrengthened security in Kenya, it has not been formally scrapped. The UNwarned in 2003 that the proliferation of arms in Somalia, most of which aresmuggled in from Yemen in violation of the UN arms embargo, poses a seriousthreat to neighbouring states, and that further attacks could take place.

Economic policy outlook

Kenya�s relations with key donors such as the IMF and EU have reached acrucial juncture and unless Kenya gives clear evidence that it is taking firmaction against "new", high-level corruption, the country could lose a substantialamount of foreign support. The EU and the IMF "deferred" disbursement ofUS$59m and US$36m, respectively, in the month to mid-July, and althoughdonor support has not been frozen or suspended, the deferral sends a clearmessage to the regime that further failures to improve governance will not betolerated. It seems at first glance as if relations have returned to the tenuousstate they were in during the Moi regime, although prospects are still betterthan they were at that time. The delays in EU and IMF funding have notaffected promised project support to date, especially from the World Bank,which is far more substantial, but should the EU formally freeze budgetarysupport, other donors would follow suit, and the IMF would have little choicebut to suspend the poverty reduction and growth facility (PRGF). The EU willmake a decision in September 2004 on whether or not to disburse the

Policy trends

International relations

Kenya 9


promised US$59m towards the budget for fiscal year 2004/05 (July-June), whilethe IMF will decide in October on the release of the delayed second tranche ofthe PRGF. The IMF withheld support because of Kenya�s failure to properlypresent a privatisation bill before parliament, or appoint a permanent directorto head the Kenya Anti-Corruption Commission (KACC) within the promisedtimescale. On balance, we predict that Kenya will respond adequately to donor(and local) concerns, and therefore not be deprived of external assistance,although this optimistic prognosis is by no means assured.

The government continues to put forward a reformist agenda, although effortshave been frustrated by ongoing political infighting. The key privatisation billwas presented to parliament in June, but was promptly withdrawn for"technical" reasons. This partly reflects local pressure for the sale of state assetsto be undertaken via the Nairobi Stock Exchange (NSE)"to help preserveKenyan "ownership""in contrast to donors� preferred option of outright sale to"strategic" investors, in order to hasten the process. The government is likely touse both forms of privatisation, with flotation being used for firms withstronger management and better prospects, such as the power generator,KenGen. But the debate over whether one form of privatisation is better thananother is a valid one and will continue in the coming months. Theprivatisation bill is unlikely to come before parliament again until September,further delaying compliance with the terms of the PRGF, although the balanceof current opinion is that it will be passed by the end of 2004. Someprivatisation has been undertaken under existing legislation, such as the sale ofpublic shares in Kenya Commercial Bank, and the proposed concessioning ofthe railways, although the licensing of a second national operator in thetelecommunications sector has been cancelled for the time being. Thegovernment has also promised comprehensive structural reforms in thefinancial sector, including the withdrawal of the state from commercial bankingin the medium term, although on the basis of past experience, progress is likelyto be slower than hoped for.

NARC!s second budget for fiscal year 2004/05, announced in mid-June,contained no major surprises or new initiatives, and represents a continuationof the policies that underpinned the budget for 2003/04, such as themaintenance of macroeconomic stability, fiscal consolidation and the switch inspending towards poverty alleviation. Many of the proposals in the 2003/04budget"such as the passage of the privatisation bill"were not implementedand have been carried over into 2004/05. However, the initial budget deficitforecast of KSh57.9bn (US$720m) has now been revised upwards to KSh63.4bnfor 2004/05, because of delays in the receipt of both donor funds and inflowsfrom the award of two new telecommunications licences. On the expenditurefront, in an attempt to control current outlays, the minister of finance, DavidMwiraria, announced a freeze on the purchase of new vehicles, cuts in travelallowances and the streamlining of overseas missions. Development spendingis budgeted to rise, provided that project funding remains in place. The mostpolitically challenging aspect of fiscal policy is the need to bring about areduction in the government!s massive wage bill, which accounted for 8.7% ofGDP in 2003/04 (or 9.6% of GDP, if parastatals are included), while also meeting

Fiscal policy

10 Kenya


demands for wage rises among key workers. The government earlier pledged tocut the civil-service wage bill to 8.1% of GDP in 2004/05 and 7.6% of GDP in2005/06 under the PRGF but, although retrenchment is not an explicit donorcondition, it will be virtually impossible for the government to meet its targetswithout laying off some 30,000-40,000 staff over the next two years, whichrisks sparking industrial action. In May the government announced plans toshed 21,000 workers over four years, but more recently it announced asignificant pay rise for civil servants, effective immediately, and it will struggleto keep the wage bill down, putting further pressure on relations with donors.As a result, we expect the budget deficit/GDP ratio to rise from an estimated4.4% in 2003/04 to 5.5% in 2004/05"particularly as planned inflows fromdonors, and from the sale of state assets, may not materialise fully. The deficit isexpected to be financed by a combination of domestic borrowing and externalsources.

Monetary policy over the forecast period will remain geared towards keepingunderlying inflation (excluding food and energy) below the official 3.5% targetand maintaining exchange-rate stability. To assist policy implementation, the2004/05 budget proposes a new benchmark interest rate in place of the morevolatile 91-day Treasury-bill rate, as well as the establishment of a MonetaryPolicy Advisory Committee. The 91-day T-bill rate rose to nearly 3% in mid-May,reflecting a temporary tightening in liquidity, but the rate remains historicallylow and it fell back to 2.1% in mid-June as conditions eased. Interest rates arelikely to remain subdued during the forecast period, given the intended shift ingovernment borrowing from shorter-term domestic sources to longer-termforeign sources, as well as the restructuring of domestic debt towards longer-term maturities.

Economic forecast

International assumptions summary(% unless otherwise indicated)

2002 2003 2004 2005Real GDP growthWorld 2.9 3.9 5.0 4.3OECD 1.6 2.1 3.5 2.8EU25 1.2 1.1 2.3 2.4Exchange rates¥:US$ 125.3 115.9 111.7 108.8US$:� 0.945 1.132 1.226 1.293SDR:US$ 0.772 0.714 0.682 0.662Financial indicators� 3-month interbank rate 3.33 2.33 2.10 2.14US$ 3-month Libor 1.80 1.21 1.49 3.11Commodity pricesOil (Brent; US$/b) 25.0 28.8 33.5 28.0Gold (US$/troy oz) 310.3 362.8 421.3 375.0Tea (US$/kg) 1.5 1.5 1.6 1.5Coffee (Arabica; US cents/lb) 61.5 64.2 75.9 74.5

Note. Regional GDP growth rates weighted using purchasing power parity exchange rates.

International assumptions

Monetary policy

Kenya 11


In 2004 the global economy will expand at its fastest pace for about 20 years.We forecast that world GDP growth (on a purchasing power parity basis) willaccelerate from an estimated 3.9% in 2003 to 5% in 2004, before moderating to astill robust 4.3% in 2005. Growth is picking up in the US, driven by extremelyaccommodating fiscal and monetary policy, as well as in China, India, Japanand the EU, Kenya!s major trading partner. We have sharply upped our forecastfor oil prices, which is detrimental to Kenya, although prices are still expected tobe significantly lower in 2005 than in 2004. The outlook for Kenya!s maincommodity exports, such as coffee and tea, is mixed. Coffee prices are nowforecast to increase in 2004"owing largely to Brazil!s much lower harvest in2003/04 (April-March)"while average tea prices are forecast to edge down fromUS$1.6/kg in 2004 to US$1.5/kg in 2005 because of excess global supply.

The government expects real GDP to grow by 3.0% in 2004, but we nowforecast growth of 2.5%, because of the deferral of non-project funding from keydonors, as well as the serious drought now affecting many parts of the country.Agriculture is the largest component of GDP, with a 26% share, and althoughthe main cereal harvest in the western "grain basket" has not been wiped out,real GDP figures are sensitive to cash crop output, which remains veryuncertain. Any failure of the short rains in October would have more seriousconsequences, not only for crop production, but also for hydroelectric powergeneration (which accounts for two-thirds of the nation�s power). Powerrationing is not currently in prospect but, if implemented, would raise costsacross-the-board"particularly when combined with rising oil prices" andinhibit business activity.

Despite the damaging impact of the drought and the delay in donor funding,real GDP growth in 2004 will benefit from faster world and regional growth,and the extension of third-party textile sourcing under the African Growth andOpportunity Act (AGOA) until 2007. Tourism is also picking up, according to theKenya Tourist Board (KTB), which is forecasting a 15% rise in visitor arrivals to630,000 in 2004, although the outlook would change rapidly if there were anyfurther terrorist attacks in the region. Furthermore, private-sector credit is rising,primarily in response to the lower interest-rate regime.

More rapid real GDP growth, of 3.7%, is forecast in 2005 as agriculture benefitsfrom reform, better transport links and normal weather conditions. Projectedinvestment in telecommunications, transport and electricity, combined withhigher garment production (for export under AGOA), will boost industrialgrowth to 5.8% in 2005. Continued recovery in tourism, together with increasedactivity in trade and finance, will contribute to growth in services. Exports areforecast to accelerate over the outlook period, in line with an upturn in theglobal economy, while imports are set to climb even faster owing to strongdemand for investment goods. As usual, the greatest negative risks relate toagriculture, owing to the possibility of poor weather conditions and thesuspension of donor support.

Annual average inflation fell from a recent peak of 10.2% in February 2004 to8.2% in June 2004, but year-on-year inflation started rising again in June, to5.9%, as a result of the 6.3% year-on-year rise in food prices, which account for

Inflation

Economic growth

12 Kenya


about 50% of the consumer price index. Transport inflation remained high inJune at 21.6% (year-on-year), reflecting the government!s clampdown on thematuta (minibus) industry in February, while fuel and power inflation rose to9.8% (year on year) because of stronger world oil prices. The impact of highertransport and energy costs will continue to feed through the system and havea knock-on effect on other prices. Moreover, food price inflation will jumpsharply because of the current poor harvest in many lowland areas, althoughthe main grain harvest is not yet threatened. Food prices traditionally ease inmid-year because of the start of the long-rains harvest, but any benefit thisyear seems to have been felt already. On the plus side, the stability of theKenya shilling will limit non-oil imported inflation. Taking all these factors intoaccount, we expect annual average inflation of 9% in 2004. Inflation isforecast to ease to 6.5% in 2005, reflecting lower food prices and the projecteddecline in oil prices. The stability of the shilling will also reduce the scope forsubstantial imported price rises.

The Kenyan shilling depreciated by 3.9% between January and June 2004, fromKSh76.3:US$1 to KSh79.3:US$1. The deferral of donor inflows, and the prospectof lower cash crop earnings because of drought, will tend to undermine theshilling, although depreciation continued to be gradual in July, with the rateagainst the dollar drifting to KSh80.4:US$1 at the end of the month. Thecurrency will continue to be supported by foreign-exchange reserves of someUS$1.3bn (as of mid-July); although reserves have declined over the past sixmonths (from nearly US$1.5bn at the end of 2003), import coverage remainssatisfactory at about 3.7 months. We expect the shilling to continue on a track ofgradual depreciation, in order to maintain global competitiveness in the face ofrelatively high local inflation, to average KSh80.50:US$1 in 2004 andKSh86.46:US$1 in 2005.

Recent official data confirm that Kenya!s current-account deficit was roughly inbalance in the 12 months to April 2004. Exports grew by 8% (year-on-year), withhorticulture posting the highest growth. At the same time, imports expanded by13% (year-on-year), partly because of the 27% rise in the cost of oil purchases.However, the surplus on invisible trade leapt by 32% (year-on-year), to US$1.5bn,owing to higher inflows from tourism and "servicing charges" for a growingvolume of re-exports. The outlook for 2004 as a whole is less promisingbecause of drought, which will curb agro-exports and drive up the food bill,although invisible earnings are forecast to remain on a solid, rising pathbecause of tourism and Kenya�s central role in regional trade. Prospects for 2005are mixed. Export receipts will benefit from higher textile sales under AGOAprovisions and, provided rainfall is normal, rising export volumes of farmproducts. However, imports are forecast to climb at an even faster rate,reflecting strengthened investment by the public and private sectors and a risein consumption, widening the trade deficit. The services account will remain insurplus, significantly so if there are no shocks to the tourism sector. The incomeaccount will continue to benefit from reduced interest charges during theforecast period, following the January 2004 Paris Club debt rescheduling.Official transfers may decline, owing to donor concerns about corruption, butmuch-larger private transfers are expected to remain solid in the short-term.

Exchange rates

External sector

Kenya 13


Taking all these factors into account, we expect the current-account deficit towiden from 3.4% of GDP in 2004 to 4.3% of GDP in 2005.

Forecast summary(% unless otherwise indicated)

2002a 2003 a 2004b 2005b

Real GDP growth 1.0 1.8 2.5 3.7

Industrial production growth 1.1 1.7 2.5 5.8Gross agricultural production growth 0.8 1.5 1.0 5.5

Consumer price inflation (av) 2.0 9.8 9.0 6.5Consumer price inflation (year-end) 4.3 8.3 12.0 5.6

Lending rate (av) 18.4 16.6 13.0 10.0Government balance (% of GDP) -3.5 -3.4 c -4.4 -5.5Exports of goods fob (US$ bn) 2.2 2.5 c 2.7 2.8

Imports of goods fob (US$ bn) 3.2 3.7 c 4.2 4.6Current-account balance (US$ bn) -0.1 -0.2 c -0.4 -0.5

Current-account balance (% of GDP) -1.1 -1.8 c -3.4 -4.3External debt (year-end; US$ bn) 6.0 6.6 c 6.7 7.3Exchange rate KSh:US$ (av) 78.75 75.94 80.50 86.46

Exchange rate KSh:¥100 (av) 62.82 65.52 72.05 79.50Exchange rate KSh:� (year-end) 80.83 96.04 106.08 115.19

Exchange rate KSh:SDR (year-end) 104.8 113.1 126.3 133.1

a Actual. b Economist Intelligence Unit forecasts. c Economist Intelligence Unit estimates.

The political scene

In his first-ever cabinet reshuffle, on June 30th, the president, Mwai Kibakidemoted (although he did not sack) several ministers from his erstwhilecoalition partner, the Liberal Democratic Party (LDP), and brought in membersof the opposition, including the former ruling party, the Kenya African NationalUnion (KANU), and the Forum for the Restoration of Democracy-People (Ford-People). Extra posts were also given to his National Alliance of Kenya (NAK)partner, Ford-Kenya. Mr Kibaki is hoping to break the parliamentary deadlockthat has been holding up key legislation by ending his reliance on the LDP. By

A cabinet reshuffle brings inthe opposition

14 Kenya


bringing in ministers from outside of the National Rainbow Coalition (NARC),the president has signalled that he has no intention of implementing thecontroversial, pre-election Memorandum of Understanding between the NAKand the LDP, which purportedly guaranteed a 50:50 division of power andresponsibility. The new cabinet has been called a government of "nationalunity", but this is a misnomer. Opposition members have been co-opted asindividuals and the KANU hierarchy was against the move. Nor is it truly acoalition government any longer, as although LDP ministers remain ingovernment, and the party has not formally resigned from NARC, mostbackbenchers have crossed to the opposition side.

Mr Kibaki appointed five new cabinet ministers"three from KANU, one fromFord-People and one from the LDP. He also appointed 12 new assistantministers"four from KANU, three from Ford-Kenya, two from Ford-People, twofrom his own Democratic Party (a member of the NAK), and one from the LDP.He shuffled a number of other ministers, but kept key allies in post, includingDavid Mwiraria at finance, Chris Murungaru at national security, and KiraituMurungi at justice and constitutional affairs. Another feature of the reshufflewas the relative victory of the "old guard" over the "young Turks". There arenow several ministers over 70 years old, including the president himself, butwhether the experience they offer is a positive force or not is a moot point.

The LDP�s Raila Odinga, the de-facto party leader, remains in charge of roadsand public works"moving him would have been politically dangerous"but helost the housing docket to the land ministry. The vice-president, Moody Awori(LDP), also emerged relatively unscathed, but he no longer has any directministerial responsibility: the two remaining dockets in his office"home affairsand national heritage"now both have dedicated ministers, while responsibilityfor provincial administration was switched to the president�s office. KalonzoMusyoka, a leading Odinga loyalist, who has manoeuvred himself into positionto be selected as the LDP!s presidential candidate in 2007, was demoted fromforeign minister to natural resources minister. Two other LDP ministers werealso demoted: Ochilo Ayacko was moved from energy to sports and culture,and Najib Balala was moved from sports to national heritage, in the office ofthe president. Raphael Tuju remains in charge of a restructured informationportfolio, having lost tourism (to the new Ministry of Tourism and wildlife), butgained the communications portfolio. Chirau Ali Mwakwere, in contrast to thefate of his LDP colleagues, was promoted to foreign from labour minister,reflecting his close links to the Kibaki camp. The LDP even gained an extracabinet post, with the appointment of William ole Ntimama as public serviceminister in the office of the president, but the veteran politician is unlikely to bea troublemaker.

The leader of Ford-People, Simeon Nyachae, was brought into government tohead the Ministry of Energy, while KANU gained three posts: Njenga Karumebecomes minister for special programmes in the office of the president; AbdiMohamed becomes regional development minister; and John Koech assumesthe new position of East Africa minister, a portfolio hived off from the Ministryof Foreign Affairs. Mr Karume is a long-term ally of Mr Kibaki, but defected to

Mr Kibaki demotes severalLDP ministers

Several opposition membersof parliament join the cabinet

Kenya 15


KANU for unknown reasons just before the December 2002 election. Mr Kibakiwill welcome the return of an old friend, but whether Mr Karume�s extensivebusiness connections will be a bonus or a curse remains to be seen, especiallygiven current concerns about corruption. Mr Koech!s promotion is lesssurprising, as the maverick politician has taken a leading role in parliamentaryefforts to reach a consensus over amending the draft constitution.

One of Mr Kibaki�s main aims in the reshuffle was to build a new, workingmajority in parliament, by bringing in opposition members to compensate forthe lost votes of the LDP rebels. However, LDP ministers have not votedconsistently with the government since the reshuffle and are taking decisionson a member-by-member and bill-by-bill basis. NARC theoretically has 133 seatsin the 224-seat assembly, but cannot reach the 50% threshold of 113 voteswithout the backing of the LDP. Unable to rely on LDP support in recentmonths, NARC was defeated on two bills (forestry policy and the adjournmentof parliament) in June when the LDP rebels ganged up with KANU (67 seats)and Ford People (15 seats). KANU, Ford-People, and the LDP together cantheoretically muster 127 votes, compared to just 88 for Mr Kibaki�s NAK.

The president can now count on Ford-People�s 15 votes, as well as about 10from KANU, which gives him a workable majority, provided the dozen-plusLDP members in the government remain loyal. Moreover, 28 NARC rebels(mostly from the LDP, but three from the Kibaki camp were unhappy about theinclusion of KANU in government) have moved to the opposition benches. Asa result, the situation is volatile and the parliamentary arithmetic remainsuncertain. In late July, the government emerged victorious, by defeating amotion to subject the appointment of Justice Aaron Ringera as head of theKenya Anti Corruption Commission (KACC) to further parliamentary scrutiny.But the wafer-thin majority"of 78 votes to 74 (parliament is seldom full, hencethe low total)"suggests that the government will still struggle to pursue itslegislative agenda.

Hardliners in the Kibaki camp (especially the "young Turks", who look up to thenational security minister, Chris Murungaru) had called for LDP ministers to besacked because of their alleged disloyalty, but moderate voices prevailed,including that of businessman and close Kibaki advisor, Joe Wanjui, whowarned that the move would be fraught with danger. In terms of aparliamentary majority, at least, it was clearly advisable to try and keep LDPministers on board. Moreover, it put the onus on the LDP to either accept theirlower profile appointments, or resign.

So far, the LDP has opted to formally stay in government (although, asmentioned, most backbenchers have crossed to the opposition benches) sayingthat as the "people" elected them, only the "people" can get rid of them, whileseveral ministers have shown surprising enthusiasm for their new jobs"such asKalonzo Musyoka at natural resources. However, the LDP is far from happy,accusing the president of creating a "one-man" government, and saying that thelack of consultation "invalidated the letter and spirit" of the coalition. The party

The president hopes to build anew majority in parliament

The LDP opts to stay ingovernment

The parliamentary arithmeticremains uncertain

16 Kenya


has also threatened to mount a Constitutional Court challenge to the legality ofincluding opposition MPs in government.

Donors have expressed their displeasure at the reshuffle because little wasdone to deal with the concerns that they have expressed about corruption and,in particular, the failure to act against state officials implicated in the AngloLeasing scandal (see Economic policy). The president sacked four permanentsecretaries linked to the deals, but took no action against ministers, despite theexposure of corruption in their departments. However, this would be politicallydifficult for the president, as one of the officials responsible, Mr Mwiraria, is along-term Kibaki loyalist. Mr Mwiraria denies any personal blame for the saga,but may struggle to save his position. In such an event, Mr Mwiraria�s mostlikely replacement would be the well respected planning minister, AnyangNyongo.

Donors were also concerned about the apparent "demotion" of the leading anti-corruption official, John Githongo, whose department of governance andethnicity was moved from the office of the president to the Ministry of Justice.However, the decision was reversed within 48 hours in order to reassuredonors that Mr Githongo still "had the ear" of the president. Having been theformer head of Transparency International�s Kenya chapter, Mr Githongo isregarded as having integrity. Earlier, in May, the justice minister, KiraituMurungi, and national security minister, Chris Murungaru, complained to thepresident that Mr Githongo had too much power and displayed "politicalnaivety" in dealing with the media. Mr Githongo�s temporary shunt to theMinistry of Justice no doubt reflected such pressures, but the ministers had notcounted on the wrath of donors. The US ambassador, William Bellamy, andother diplomats have also criticised the slow transition from de facto one-partyrule to multiparty coalition politics (see box), the continuous factionalinfighting that has prevented effective governance and the promised adoptionof a new constitution.

Kenya�s government grows in size

Mr Kibaki appears to have forgotten an earlier promise to form a "leaner"administration. The addition of 19 new posts takes the size of his government to 63,including 29 ministries. This will inflate fiscal spending at a time when prudence isrequired, and by creating confusion about where responsibility lies, could revive thedamaging "turf wars" that characterised the previous administration of Daniel arapMoi. In its defence, the government claims to have dealt with the problem ofassistant ministers having little to do, by giving them clearly defined roles. Theexpansion of government is mainly a political move, to enable the president to builda new majority in parliament, but if it helps to break the legislative log-jam andimproves service delivery, it will be welcome.

Kenya experienced its first serious political violence since the 2002 elections,when police and demonstrators clashed in central Nairobi and the western cityof Kisumu on July 3rd, and then again in Kisumu four days later. The violenceerupted when supporters of the "zero" draft constitution that emerged from theNational Constitutional Conference (NCC) at Bomas in March"known as theBomas Katiba Watch group"tried to push ahead with a planned rally at Uhuru

The Kibaki regime confrontsits first outbreak of civil unrest

Donors are not happy with thereshuffle

Kenya 17


Park, Nairobi, on July 3rd, despite a last-minute police ban. Intermittent riotingpersisted throughout the day, resulting in one death, damage to property andinjuries. The police used water cannon and tear gas to break up the crowds inNairobi, but the spread of violence to Kisumu, in the LDP�s heartland, provokeda much harsher response. Live bullets were fired, killing one person, and theywere used again four days later during the annual Saba Saba daycommemoration, leading to another two deaths. Fortunately, no furtherviolence has taken place, although recent events show that the police have apoor escalation ladder, and that Mr Kibaki cannot take civil peace for granted,which is not encouraging for donors, investors and tourists.

Bomas Katiba Watch helped to reduce tension by rescheduling a series ofplanned rallies throughout the country. Gatherings at Nakuru (July 17th) andKericho (July 18th) were low-key and peaceful. Attention then focused on thelarger rally in Mombasa on July 24th, which was attended by 10,000 peoplebut, despite fears of unrest, the occasion was "trouble-free". The government,sensibly, has dropped its "iron-fist" approach, hoping that support for BomasKatiba Watch will fizzle out. Whether or not that is the case, it was certainlywell advised to allow open debate over the constitution. A final rally isplanned for Uhuru Park on August 7th, which may reveal what shifts, if any,have taken place in the political temperature since the first, aborted attempt.Bomas Katiba Watch is also attempting to gather a 5m signature petition infavour of the "zero" draft.

The constitutional deadlock now appears closer to resolution, due in part"somewhat ironically"to the efforts of the new chair of the Parliamentary SelectCommittee (PSC) on the constitution, KANU�s William Ruto. Mr Ruto had beenamong the government�s sternest critics over the constitution (although civilsociety groups also point to his lack of commitment to reform in the past), buthe has approached his new role enthusiastically. This may, or may not, berelated to the court case launched against him by the government in April 2004over corrupt land deals. Some political commentators have speculated that thecase will be "quietly" dropped in return for Mr Ruto�s co-operation over theconstitution.

The PSC said in late July that it would commend the "consensus bill" (withamendments) published in June by Mr Murungi, which would allow the "zero"draft to go straight to parliament, by-passing the attorney-general, and allowMPs to amend the document. Under the plan, the attorney-general, AmosWako, would then combine the "zero" draft with the amendments proposed byparliament, before a "new" draft is submitted to a referendum, as requiredunder a Constitutional Court ruling passed in March 2004.

Earlier in the month, the PSC extended the mandate of the KenyaConstitutional Review Commission (CKRC), following its expiry at the end ofJune, and also appointed Abida Ali Aroni as chairperson, in place of ProfessorYash Pal Ghai. The respected academic resigned on June 30th saying that hiswork was done and that the new constitution was ready. Ms Aroni is a far lessprominent personality and is likely to seek consensus within the CKRC. Themain role of the CKRC will be to conduct a national education exercise to

Tension falls as other ralliesare postponed

The constitutional deadlockmay be close to resolution

18 Kenya


prepare the country for a referendum on the constitution, a process that isexpected to last about two or three months. The PSC also gave authority to theelection commission to conduct a referendum.

One key amendment to the "consensus" bill proposed by the PSC is that anynew constitution will have to be approved by a simple majority of voters,instead of the two-thirds majority proposed by the minister�s earlier version.This will make it much easier to pass the constitution and is a positivedevelopment. A panel of judges will decide on any appeals. However, BomasKatiba Watch accuses Mr Ruto of betrayal, and the adoption of thecompromised constitution is unlikely to be smooth.

Economic policy

Donor funding is seriously threatened by concerns about rising corruption. Atop-level EU delegation met the president, Mwai Kibaki, on July 21st to explaina decision to delay the planned disbursement of KSh4.7bn (US$59m) towardsthe 2004/05 budget (July-June), until September at the earliest, pending areview of the government!s action against corruption and, in particular, againstcorrupt members within the administration. The funds were to have been thefirst instalment of the three-year EU programme worth KSh12.5bn, although thedecision does not affect the EU!s financial backing for projects in transport,power and tourism. The EU move came just three weeks after the IMFpostponed the release of the second US$36m tranche of the poverty reductionand growth facility (PRGF) agreed last November"which had been due inMay"pending the outcome of a review mission in August. The IMF cited thegovernment!s failure to enact key legislation, especially the privatisation bill,and to appoint a director to the Kenya Anti-Corruption Commission (KACC).The government�s preferred choice as head of the KACC, Justice Aaron Ringera,has not yet managed to secure parliamentary approval.

The Kibaki regime, elected in December 2002 on an anti-corruption platform,scored initial successes in the war against graft during 2003 with the passage ofnew laws and the sacking of corrupt judges, but the campaign has lostmomentum so far this year. Donors are particularly critical of the government�sfailure to deal effectively with the scandal surrounding Anglo Leasing (a firmnow referred to as Anglo "Fleecing"), which has made a mockery of itscommitment to "zero-tolerance" of corruption. Anglo Leasing is an off-shorevehicle backed by unknown investors; although a company "spokesperson"denied that any Kenyans were involved, clear links have emerged betweenAnglo Leasing and prominent business players from the Moi era. The firm wasawarded two contracts worth about KSh7bn (US$87.5m) for the introduction ofa new passport system and the construction of a new forensics laboratory forthe police, but correct procurement procedures were not followed in either case.

The irregular nature of the deals was not even exposed by official anti-corruption institutions, but by the local media. At first, the government deniedany impropriety but, as the pressure mounted, it cancelled the contracts,secured the return of some KSh400m (US$5.1m) already paid and sacked four

The EU calls for a fullinvestigation into the scandal

Donors delay funding becauseof corruption concerns

Kenya 19


permanent secretaries. However, this was not sufficient to satisfy donors (aswell as many Kenyans) who seek a full investigation, with possible ministerialscalps and prosecutions. Such a move would be politically difficult for MrKibaki as one of the officials responsible is the finance minister, DavidMwiraria, a long-term Kibaki loyalist. Mr Mwiraria denies any personal blamefor the saga, but he signed the documents granting approval for the passportcontract and may struggle to save his position. Parliament�s Public AccountsCommittee (PAC) said in mid-July that Mr Mwiraria should be held responsibleand that lower-level officials should be prosecuted. The high profile given tothe Anglo Leasing scandal reflects the emergence of details about the innerworkings of the public realm, but there are probably other deals that have notbeen exposed. In that sense, donors are using Anglo Leasing as a test case.

Donor concern over increased corruption has been rising steadily. The DonorDevelopment Group (DDG), which comprises the heads of mission of keydonors (including the UK and US) and represents all bilateral donors in thecountry, wrote to Mr Kibaki twice in June raising concerns over factionalinfighting within the ruling National Rainbow Coalition and calling for actionagainst corruption, especially in the Anglo Leasing scandal. The government�sfailure to act against suspect officials, especially in the end-June cabinetreshuffle, eroded donor patience and trust, and the tenor of their vocal attacksgrew more severe. A joint press statement by donors in early July warned thataid could be withdrawn because "corruption is still a major factor at the heartof the Kenyan government" and because the Treasury was being "tapped forprivate gain". The US Ambassador, William Bellamy, publicly expressed doubtas to the government�s capacity to defeat graft and said that US investors willstay away until corruption is brought under control.

The high point in the donor onslaught came on July 13th 2004 when the UKHigh Commissioner, Edward Clay, used strong and undiplomatic languagewhen addressing a private British Business Association lunch. Mr Clay singledout the civil service head, Francis Muthaura, for criticism, accusing him of"selective amnesia". Mr Clay estimated that "new" corruption worth KSh15bn(US$19m) has taken place in the 18 months since Mr Kibaki entered StateHouse, in addition to KSh80bn in "old" corruption inherited from the Moi era,and said that future UK support was at risk.

Mr Clay�s speech was cleared by the UK Foreign Office and thus representsofficial policy. The UK is Kenya�s largest bilateral donor; the Department forInternational Development launched a three-year country assistance prog-ramme in mid-2004 worth US$67m in 2004/05, rising to US$90m in 2005/06.The severity of Mr Clay�s remarks partly reflected his frustration at beingrebuffed for several months in attempts to arrange an interview withMr Kibaki. The publicity surrounding the speech, and the subsequent deferralof EU aid, appear to have shocked the government into action, leading to themeeting between the president and the EU delegation on July 21st.

Donors remain relatively hopeful that the Kibaki regime will take action, andthat large aid flows will resume quickly, but if this were not the case, theimpact on the Kenyan economy would be very damaging. The budget for

Foreign diplomats increasepressure on the government

The suspension of donorsupport will be damaging

20 Kenya


2004/05 has already been subject to a revision since it was announced in mid-June, owing to donor reluctance to release substantial funds. So far, the EU hassimply "deferred" budgetary support, but were this to become a formalsuspension, EU project support, as well as funding from other donors, wouldbe threatened. The IMF could suspend the PRGF and promised donor fundingof nearly US$4bn over three years might not materialise, leaving thegovernment�s fight against poverty"as embodied in the Economic RecoveryStrategy for Wealth and Employment Creation (ERSWEC)"in tatters.

The World Bank upgrades Kenya�s status

Despite the gloomy climate for donor funding, the World Bank upgraded Kenya�slending status from low-case to base-case in June. The decision forms part of theWorld Bank�s new Country Assistance Strategy, approved in June 2004. It more thantriples Nairobi�s lending ceiling, allowing the government to borrow up to US$900mfrom the World Bank over the next four years (May 2004, Economic policy). Thedecision is a major vote of confidence in the Kibaki regime and, according to WorldBank country representative, Mokhtar Diop, reflects the progress made in the drivetowards improved governance, such as the clear-out of corrupt judges and theestablishment of the Goldenberg Commission (which is now well into its secondyear and shows no signs of drawing to a conclusion). Mr Diop also said that Kenyawould become eligible for high-case status if it undertakes financial-sector reforms,allocates more resources to poverty reduction programmes and establishes a soundsystem of financial management and accountability.

Although the World Bank!s position appears to be inconsistent with the stancerecently adopted by other donors, the decision to award the loans and upgradeKenya�s lending status was taken before the Anglo Leasing scandal gainedprominence. In late July, Mr Diop said that the World Bank was keen for theinvestigation into Anglo Leasing to be concluded, and for action to be taken, and thatthe donor position remained united. He warned that the World Bank could withholdfuture assistance if progress is not made, but was optimistic that problems could beresolved.

NARC!s budget for fiscal year 2004/05, announced in mid-June under thetheme "enhancing efficiency for accelerated economic growth", contained nomajor surprises, or new initiatives. It represents a continuation of the policiesthat underpinned the budget for 2003/04, such as the maintenance ofmacroeconomic stability, fiscal consolidation and the switch in spendingtowards poverty alleviation. Many proposals in the 2003/04 budget"such asthe passage of the privatisation bill"were not implemented during the year andhave been carried over into 2004/05. Moreover, since the initial announcementof the budget in mid-June, it has been subject to some adjustments, particularlyfor total fiscal revenue, owing to delays in the receipt of both donor funds andinflows from the award of two new telecommunications licences. In mid-July,the EU deferred funding of KSh4.7bn, until September at the earliest, becauseof concerns about corruption. In addition, both telecommunications deals"valued at KSh5.9bn"have encountered problems (see The domestic economy:Transport and communications). The non-receipt of these funds would inflatethe budget deficit, pushing up domestic borrowing (and probably interest

The budget for 2004/05 issubject to revisions

Kenya 21


rates), although any formal suspension of donor support would have farmore significant implications. Donor funding for projects has not beenaffected, to date, and the government expects the receipt of KSh46bn inproject grants and loans in 2004/05.

Total spending is now forecast to rise by 5% to KSh352.5bn (US$4.43bn):development outlays are forecast at KSh76.7bn, while recurrent spending isforecast to rise to KSh275.8bn. However, neither the Central Bank of Kenya northe Treasury have yet published more detailed information. As a result, abudget deficit of KSh63.4bn (an upward revision from the minister!s initialforecast of KSh57.9bn, 5.1% of GDP) is now expected, compared to an estimateddeficit of KSh47bn, 4.4% of GDP in 2003/04. The budgetary shortfall is forecastto be financed by net domestic borrowing of KSh22bn and net external fundingof KSh41.4bn, although this latter figure seems optimistic (see below). It shouldbe noted that budgetary data for both spending and revenue are expected to besubject to further (and frequent) revisions in the course of the fiscal year.

Government finances, 2004/05(KSh bn)

Revised forecast Initial forecastTotal revenue 289.1 309.0 Domestic revenue 258.9 271.0 External grants 30.2 38.0

Total expenditure 352.5 366.9 Re-current 275.8 280.3 Development 76.7 86.6Balance -63.4 -57.9

Source: Budget speech; local newspapers; Central Bank of Kenya.

Revised budgetary data for 2004/05 also indicate that total fiscal revenue isnow forecast to rise by 10.2% year-on-year, to KSh289.1bn (US$3.61bn), withdomestic revenue accounting for KSh258.9bn (down from its initial forecast ofKSh271bn), and external grants for KSh30.2bn (down from its initial target ofKSh38bn). Despite the projected loss of KSh6.3bn in customs revenue followingthe planned start of the East African Community (EAC) customs union onJanuary 1st 2005, the minister imposed no significant tax rises"VAT stays at16%"preferring to rely on faster economic growth and improved tax collection.Other revenue measures in the 2004/05 budget include:

• the re-imposition of a 2.5% customs and excise levy for goods sold byExport Processing Zone (EPZ) firms in the local market. The move addressescomplaints from non-EPZ firms about unfair competition, but is likely to deterinvestment. The minister also plans to amend the EPZ Act to more rigorouslyseparate commercial from manufacturing activities;

• the extension of tax concessions to cover the leasing of capital equipment;

• the exemption of liquefied petroleum gas (LPG, i.e. propane and butane)from VAT;

• the offer of a tax amnesty, lasting until the end of the fiscal year, forcorporate institutions that have evaded payment but who make a fulldeclaration of earnings to the authorities"this will help to broaden the tax base;

Taxes remain stable despite theloss of customs revenue

22 Kenya


• a reduction in excise duty on soft drinks from 15% to 10%, which hasalready spurred new investment by Coca-Cola; and

• the imposition of stiff penalties for counterfeiters, in order to protectlegitimate manufacturers, and an increase in the search powers of the KenyaBureau of Standards.

The government hikes civil servants� wages

In late July, despite earlier pledges to cut the public-sector wage bill, from 8.7% ofGDP in 2003/04 to 8.1% of GDP in 2004/05, the government announced the largestpay award for civil servants since independence, with salary increments of between14-148%. The lowest paid workers will get a 50% rise, and all increases will bebackdated to July 1st. Although some increases were justified"especially given thatthe previous 13% rise took place as far back as 1987"the government cannot reallyafford them (especially if relations with donors deteriorate), unless they wereaccompanied by large cuts in the bloated public-sector workforce. In an attempt toshed labour, the government launched the Targeted Voluntary Early RetirementScheme in May 2004, which aims to cut the workforce by about 21,000 over fouryears. Despite the magnitude of the recent pay rise, trade union leaders haverejected it, and are threatening strike action to support a 600% backdated claim.

The 2004/05 budget proposes major reforms in the financial system, includingthe progressive withdrawal of the state from commercial banking and thetransfer of regulatory powers to the Central Bank. The package of measures isdesigned to raise efficiency and competition in the banking sector, and toimprove supervision, thereby cutting interest rate spreads and boosting privatesavings and investment. Most measures have been widely welcomed, but someof the reforms were promised but not implemented in 2003/04, which suggeststhat further delays are possible, especially as there is no fixed timetable. Thereforms will be supported by a US$24m Financial and Legal Sector Credit,funded equally by the World Bank (US$12m) and a co-financier, although thishas yet to be finalised. The minister�s key proposals include:

• the restructuring and eventual sale of the bankrupt National Bank ofKenya and other state banks, and the liquidation of distressed small banks;

• the transfer of licensing, regulatory and disciplinary powers from theMinistry of Finance to the Central Bank of Kenya;

• the passage of anti- money laundering legislation;

• a further reduction in the stock of non-performing loans (which amountedto 24.8% of total loans in April 2004, down from 29.2% a year earlier) bytightening provisioning regulations to international best practice;

• the establishment of a credit reference bureaux, to improve the lendingenvironment and make it easier for banks to assess risks;

• the introduction of a new, neutral bank rate to replace the 91-dayTreasury bill as a benchmark interest rate;

• the passage of an electronic funds transfer bill, to speed cheque clearance;

• the passage of a micro-finance bill, to encourage small businesses;

Financial sector reforms mayimprove efficiency

Kenya 23


• the reform of capital markets to encourage the issue of long-term securities;

• the introduction of the "In Duplum" rule, which bars banks from charginginterest and penalties in excess of the initial loan in the case of default; and

• the retention of ministerial powers to regulate the level of bank chargesand commissions. This is the most controversial measure, although the widespread of charges currently applicable suggests the powers are not being used.

The domestic economy

Economic trends

Recent official data indicate that real GDP growth picked up to 2.3%(annualised) in the first five months of 2004, compared to 1.4% in the sameperiod in 2003. The transport and communications sector (6% of GDP) postedthe strongest growth, at 4%, reflecting the rapid rollout of mobile phoneservices, and a pick-up in activity at Mombasa port. Financial services (11% ofGDP) posted further solid growth of 3%, while the dominant agriculture sector(24% of GDP) grew by 2.4%, compared to 1.3% a year earlier. More disappointingwas growth of just 1.6% in manufacturing (13% of GDP) and 1.4% in trade,restaurants & hotels (13% of GDP), illustrating the slow recovery of industry andtourism. Power generation and consumption jumped by 8.6% and 7.9%,respectively, indicating rising economic activity.

Gross domestic product by sector(% real change, year on year, unless otherwise indicated)

2003 2003 2004Year Jan-May a Jan-May a

Agriculture 1.5 1.3 2.4Manufacturing 1.4 1.2 1.6

Trade, restaurants & hotels 1.4 1.5 1.4Financial services 3.0 2.5 3.0

Transport & communications 1.5 2.9 4.0Building & construction 2.2 1.5 2.4

Government services 1.6 1.7 2.0GDP incl others 1.8 1.4 2.3

a Annualised.

Source: Central Bank of Kenya, Monthly Economic Review, June 2004.

Despite the pick-up in growth, the pace of recovery is too slow to keep up withpopulation growth and income per head continues to fall. Moreover, theCentral Bank of Kenya will struggle to meet its latest 3% growth forecast for2004 as a whole because of: a severe drought, high international oil prices, anddelays in the disbursal of donor funds (which will curb investment andconsumption and damage confidence).

The current drought could be particularly damaging, by cutting output of bothfood and cash crops (leading to higher imports and lower exports) andthreatening hydroelectricity production, which accounts for two-thirds of thenation�s power. Power rationing combined with higher oil prices would raise

Real GDP growth picks up inthe first part of 2004

24 Kenya


costs across-the-board and inhibit business activity. However, power suppliesare not currently in danger, although the situation will become more serious ifthe short rains fail in October, in which case farm output would also post afurther decline.

More positively, real GDP growth will benefit from faster world and regionalgrowth, and the extension of third-party textile sourcing under the AfricanGrowth and Opportunity Act (AGOA) until 2007, and the whole act itself, until2015. Tourism is also picking up, and the Kenya Tourist Board (KTB) forecasts a15% rise in visitor arrivals to 630,000 in 2004, based on current bookings. Thefigure could be higher, barring any terror incidents, especially as UK charterflights expected to resume in September. On balance the Economist IntelligenceUnit expects the economy to grow by no more than 2.5% in 2004 because ofthe drought and disagreements over donor funding.

Government finances, Jul-Apr(KSh bn)

2002/03 2003/04 2003/04Actual Actual Budget

Total revenue 179.4 209.9 214.3 Domestic revenue 170.2 195.7 192.7 External grants 9.2 14.2 21.6

Total expenditure 204.3 213.0 245.5 Recurrent spending 175.2 187.1 200.2 Development spending 29.1 25.9 45.3Deficit (commitments basis) -24.9 -3.1 -31.2 % of GDP -2.5 -0.3 -2.8


According to the finance minister, David Mwiraria, during his budgetpresentation, the deficit in 2003/04 amounted to KSh47bn (US$60m), 4.4% ofGDP, compared to the 3.5% of GDP forecast by the IMF in December 2003. Theupdated 2003/04 deficit takes into account the supplementary budget passed inmid-May, which lifted spending by KSh8.3bn. This reflected a typical, end-yearpick-up in government spending, as well as significant outlays on conferences,commissions and review bodies. However, the Kenya Revenue Authority (KRA)collected KSh235bn in 2003/04"29.4% over target and 12.7% higher than thelevel in 2002/03"including KSh113bn from customs and excise, KSh82.3bn fromincome tax and KSh37.4bn from VAT. The picture is further complicated as thelatest official figures from the Central Bank of Kenya, for the first ten months ofthe fiscal year, bear little relation to the minister!s figures presented in thespeech. According to official data, government revenue was 2.1% under target, atKSh201bn, solely because of a shortfall in external grants, as tax collection was8.6% over target. Spending came in at 15% below the budget forecast, atKSh213bn, partly because of savings on recurrent outlays, but mainly becauseof cuts in projected capital outlays. Capital spending was lower than in thesame period in 2002/03, which reflects the hesitancy of donors to becomeinvolved in Kenya owing to fears of corruption.

The budget deficit in 2003/04was higher than forecast

Kenya 25


Inflation, 2004(%)

Jan Feb Mar Apr May JunAnnual average 10.0 10.2 10.1 9.7 8.8 8.2Year-on-year 9.1 9.9 8.3 7.6 4.7 5.9

Source: Central Bank of Kenya, Monthly Economic Review & Weekly Reports.

Inflation (year-on-year) picked up again in June 2004 to 5.9%, after dipping inMay. Food price inflation, which accounts for about 50% of the consumer priceindex, rose to 6.3% (year-on-year) in June, compared to 5.1% in May. Transportinflation remained high, at 21.6% (year-on-year), reflecting the government!sclampdown on the matuta (minibus) industry in February, while fuel andpower inflation rose by 9.8% (year-on-year) because of stronger world oilprices. The impact of higher transport and energy costs will continue to feedthrough the system and have a knock-on effect on other prices. Moreover,food price inflation will jump sharply because of the current, poor harvest inmany lowland areas, although the main grain harvest is not yet threatened.Food prices traditionally ease in mid-year because of the start of the long-rainsharvest, but any benefit this year seems to have been felt already. Annualaverage inflation fell steadily from a recent peak of 10.2% in February to 8.2% inJune, but is likely to head up again towards the end of the year. We expectinflation to average 9% in 2004.

Exchange rate2003 20043 Qtr 4 Qtr 1 Qtr Apr May Jun

KSh:US$ (av) 76.2 76.8 76.6 77.9 79.2 79.3

Sources: Central Bank of Kenya, CBK Weekly Reports; IMF, International Financial Statistics, July 2004.

The Kenya shilling depreciated by 3.9% against the US dollar between Januaryand June to KSh79.3:US$1. Such a trend is consistent with the Central Bank!spolicy to let the currency drift downwards. The exchange rate against the euro,for instance, was relatively stable in the first half of the year, moving down just0.1% to KSh96.3:#1 in June. The shilling was steady against the US dollar inJune, but resumed its downward path in July to reach KSh80.4:US$1 at the endof the month, which partly reflects the decline in confidence followingdeferrals of donor funding. Although foreign-exchange reserves fell fromUS$14.8bn at the end of 2003 to US$1.3bn on July 16th 2004, import coverremains satisfactory at 3.7 months, and a rapid depreciation of the shilling isunlikely unless there is a political, or economic, crisis.

Agriculture and horticulture

The president, Mwai Kibaki, declared a "national emergency" on 14th July, asthe early end to the long-rains caused crop failure and the possibility ofwidespread starvation. According to the Famine Early Warning Systems (FEWS)Network report of 16th July 2004, the long-rains ended in early May, a monthtoo soon, while the outlook for rain in August gives no reason for optimism,following poor rains in July. The harvest in lowland areas throughout the

Kenya declares a nationaldisaster due to crop failure

Food, transport and energyprices stoke inflation

The Kenya shilling depreciatesin 2004

26 Kenya


country is likely to be poor. Moreover, according to the UN World FoodProgramme (WFP), it is the cumulative impact of three-four years of poor rainsthat is the real problem. On a more positive note, FEWS said that key growingareas in the west"Kenya�s "grain basket", which accounts for 80% of annualproduction"benefited from light showers in June and July. However, the usual"early" grain crop will be small and late, while the bean harvest could be cut inhalf. Poor rains will also affect key cash crops and have a negative impact onoverall real GDP growth (see The domestic economy: Economic trends). Thelatest famine has also given renewed impetus to calls for a "national foodpolicy", which includes measures such as improved water storage facilities.

The Kenya Food Security Group, which brings together official, donor and NGOrepresentatives, has indicated that domestic food aid requirements areestimated to amount to 156,000 tonnes in the next six months, costing US$76m,compared to average annual cereal imports of US$30m. Additional non-foodassistance of US$32m will also be needed. The government has distributedrelief worth US$19m over the past year, but current food stocks are estimated atonly one-two months. Official estimates also suggest that approximately 1mpeople are currently experiencing severe food shortages, while another 2.3mmay need food aid in the next six months"out of a total population of some30m"as the bulk of households are now dependent on the market or thegovernment for food supplies. The Ministry of Agriculture says that foodproduction in five of Kenya�s eight provinces"Coast, North Eastern, Eastern, RiftValley and Central"will be 40% below normal. Failure of the short-rains inOctober would add a further 1m people to the government!s "at-risk" register.

Cash crop production, Jan-May(�000 tonnes unless otherwise indicated)

2003 2004 % changeSugarcane 1,492.3 1,852.6 24.1

Tea 116.8 145.9 24.9Horticulture 61.5 72.5 17.8Coffee 30.6 28.6 -6.6

Pyrethrum 2.1 2.3 8.9

Sources: Central Bureau of Statistics; Pyrethrum Board of Kenya; Kenya Sugar Authority; Horticulture Crops Development

Association.

Cash crop growth stayed on a rising path in the first five months of 2004, withproduction of Kenya�s top-two agriculture exports"tea and horticulture"risingrapidly. Sugarcane, mainly for the domestic market, also performed well, as didpyrethrum, although coffee remained in the doldrums (because of local andglobal factors). However, the current nationwide drought is expected to bring ahalt to cash crop growth, except for horticulture, which as a high-value activitywarrants outlays on irrigation. Tea"one of Kenya�s top exports"has benefitedfrom good, early season rains in 2004 (especially compared to the poor start in2003), but annual production may be little different to 2003 because of currentdry conditions.

Cash crop performance willweaken as drought returns

Kenya 27


Industry

In mid-June, Coca-Cola announced planned investment of US$38m in itsKenyan soft drinks operation. The outlay will fund a major restructuring, basedon the closure of existing bottling plants at Machakos, Nakuru and Nairobi, andthe opening of a new centralised facility at Embakasi. In that sense, not all ofthe funds represent investment in new capacity, and US$3m or more may beswallowed up by the closure of redundant facilities. On a more positive note,the local Coca-Cola representative pointed out that the company�s latestinvestment plan was a direct response to the cut in excise duties on soft drinks("all commercial, non-alcoholic beverages") in the 2004/05 budget, from 15% to10%. Coca-Cola has emerged as the dominant soft-drinks player as a result ofrecent acquisitions, but what is most notable for the wider investment climateis the sensitivity of foreign interest to specific tax levels.

Mining

A Canadian mining company, Tiomin, has finally secured official approval forits plan to invest KSh11.5bn (US$144m) in the Kwale mineral sands project(Coast province), in what is set to be one of Kenya�s largest-ever foreigninvestments. The natural resources minister, Kalonzo Musyoka, and Tiomin!sCEO, Jean-Charles Potvin, signed a 21-year lease agreement in July 2004, afternegotiations lasting almost a decade. At one stage it appeared that Tiominwould pull out because of opposition from local people and Kenya�s slow-moving bureaucracy, but the hurdles have been overcome. Construction isscheduled to start in January 2005 and last 20 months, including the buildingof new port facilities at Likoni, Mombasa. However, Tiomin still needs tonegotiate some of the outstanding terms with the government, as well as apower supply agreement, which opens the door for further delays. Thecompany also needs to raise the necessary funds"a mixture of bank loans andinternal resources"although this is not expected to be a problem. Thegovernment also hopes that the award of the lease to Tiomin will prove to bethe catalyst for other mining projects.

Tiomin forecasts production of 444,000 tonnes per year from the Kwalemineral sands project (over a 14-year period), including 330,000 tonnes ofilmenite, 77,000 tonnes of rutile, and 37,000 tonnes of zircon. Ilmenite andrutile are used for making pigments"they impart brilliance, lustre and fade-resistance to paint"while zircon is used in ceramic glazes and electronics. Rutileand zircon attract premium prices and are forecast to generate 80% of revenuefrom the mine. High-grade deposits are forecast to run out after 14 years, afterwhich Tiomin will turn to the extraction of lower-grade deposits at the site.

Transport and communications

Prospects for foreign investment in Kenya�s railways took a step forward in earlyJuly with the holding of a "Railways Stakeholders and Investors Conference",

Kenya seeks a foreign partnerto run the railway network

Tiomin�s mining project isfinally approved

High-grade deposits at Kwaleare expected to last 14 years

Coca-Cola plans majorinvestment in soft drinks

28 Kenya


attended by several international firms. Kenya and Uganda are jointly seeking aconcessionaire to operate and invest in their rail networks (see May 2004, Thedomestic economy: Transport and communications). To make Kenya RailwaysCorporation (KRC) more attractive to investors, the government agreed toabsorb the firm�s debts of KSh22bn (US$275m), although it hopes to recover thisfrom concession fees and the sale of assets not required by the concessionaire.The government also vowed to trim the workforce by 2,000 to 6,200 over thenext 12 months, and conceded that the winning bidder can retain as manyworkers as it deems appropriate. This could provoke labour unrest, although aproperly executed compensation package would probably be satisfactory todisplaced workers.

The government reassured potential investors that the concessioning process isnot dependent on the passage of a new privatisation bill. Kenya insists that theconcessionaire must maintain passenger services for a minimum of sevenyears, and that third-party competitors (if any are willing to join) will only bekept out of the market if the concessionaire meets specified freight targets.Freight will be the main source of revenue; the volume of traffic is projected torise from 2.3m tonnes to 5m tonnes per year, as rail becomes increasinglycompetitive compared to road (especially given prospective highway tolls).

A short-list of bidders is to be announced in September 2004"German andChinese groups, among others, are thought to be interested"and a 25-yearconcession is to be awarded in mid-2005. The winner will take 60% of theventure, while the governments of both Kenya and Uganda will jointly holdthe other 40%. Any concessionaire will be expected to invest about KSh18bn(US$225m) in maintaining and rehabilitating rail assets, and will be required tosurrender 5% of gross annual revenue for the first five years, rising to 7% for theduration of the lease. Moreover, Kenya expects an upfront fee of KSh240m anda variable annual fee.

However, delays are more likely than not, given past experience of marketopening in Kenya, especially as some key issues remain to be settled. First,Uganda and Kenya are in dispute over how to divide their 40% stake"withboth sides wanting the entire amount"although it seems likely they will splitthe pot. There is also uncertainty over the 142-km branch line currentlyoperated by the Magadi Soda company (a major foreign investor in Kenya)under a lease from KRC. It appears that the line is not covered by the widerconcession, thus leaving the concessionaire and Magadi Soda to negotiate adeal between themselves.

At the end of May, Netherlands-based Celtel won the battle for control ofKenya�s second-largest cellphone operator, Kencell, beating strong competitionfrom South Africa�s Mobile Telephone Networks (MTN). In one of Kenya�slargest-ever corporate transactions, Celtel reportedly paid US$250m for VivendiUniversal�s 60% majority stake"a shareholding that the French media giant putup for sale more than a year ago. Vivendi originally agreed to sell its shares toMTN, but the Sameer group, a local conglomerate that holds the remaining 40%of Kencell, and which had pre-emptive rights over the Vivendi stake, purchasedthem instead before immediately selling them onto Celtel, which has been

Celtel secures a stake inKenya�s mobile phone sector

Kenya 29


trying to break into the Kenyan market for several years. Dutch-based ING,which specialises in lending for investment in emerging markets, providedCeltel with most of the requisite funds.

The transaction boosts Celtel�s subscriber base by more than one-third, toaround 4m people, making it one of the biggest operators in Sub-Saharan Africaoutside of South Africa. Celtel�s revenue increased by 42% to US$446m in 2003,and the group has earmarked US$300m for capital investment in existingoperations in 2004, of which perhaps half will be in Kenya. In late July the firmannounced plans to raise between US$100m-150m on the Nairobi StockExchange (NSE), via a bond or a combined bond and syndicated loan, withinthe next three-four months.

The licence award for a third mobile operator remains on hold

The dispute between the principal shareholders in the consortium Econet WirelessKenya (EWK), which was awarded the third mobile licence in March 2004, remainsunsettled. On the plus side, the parent firm, South-African owned Econet WirelessInternational (EWI), with a nominal 10% stake, and its local partner, the KenyanNational Federation of Cooperatives (KNFC), with an 82% holding, reachedagreement in time to comply with an end-May government deadline. This requiredKNFC to confirm that it was a willing member of the EWK consortium. However,disagreements between the two "partners" have increased rather than decreased,with KNFC accusing EWI of trying to increase its holding in the EWK joint venture to51%, without prior consultation. But despite KNFC�s "aggressive" stance, the group"byits very nature"is incapable of generating large sums in the short term, and has stillto meet prior commitments to repay a US$1.35m "bid-bond", lodged by EWI in late2003. KNFC seeks to lead the consortium, but lacks the capacity to do so. As a resultof the impasse, the government has still to receive the expected US$28m licence fee,although the funds are factored into the current 2004/05 budget.

In July 2004, the government unexpectedly cancelled the award of a licence fora second national fixed line operator (SNO), lifting the threat of competition tostate-owned Telkom Kenya (TK). The Communications Commission of Kenya(CCK) had been due to announce the winning bid after a nine-month tenderprocess, but the new communications minister, Raphael Tuju, in consultationwith Mr Kibaki, stopped the process and demanded a re-bid. The ministerclaimed, perversely, that the failure to have more than one of the threetechnically qualified bidders meet the KSh2bn (US$25m) reserve pricesomehow rendered the process uncompetitive. The setting of a reserve pricewas designed to forestall the usual accusations that the government was sellingstate assets too cheaply, but instead it has been used as an excuse to dump theentire process. It appears that a group led by Norway�s Telenor was the highestbidder, in competition against groups led by India�s Tata and China�s ZhongxingTelecom Company (ZTE). Whatever the official reason for stopping the process,telecoms liberalisation has once again gone awry, and further court action is inprospect.

Licensing of a second nationaloperator is cancelled

30 Kenya


Financial services

In a drive to raise funds for modernisation and expansion, Kenya CommercialBank (KCB) approved a rights issue in June, with shareholders eligible for oneshare for every three currently held. However, the government opted not totake up its allocation of 17m shares and sold them via the Nairobi StockExchange for KSh55 each, KSh6 per share above the official selling price for therights issue, thus netting a profit of KSh102m (US$1.3m). As a result, thegovernment!s stake in KCB has in effect fallen from 35% to 25%, in line withpromises made to the IMF.

KCB expects the recapitalisation to be a success, thereby raising KSh2.5bn(US$31m) to expand banking services via a "fast-track" transformationprogramme. After four years of losses, KCB recorded a small, KSh750m pre-taxprofit in 2003, owing to improved performance. Furthermore, non-performingloans (NPLs) declined from over KSh25bn at the end of 2002 to under KSh20bnat the end of March 2004. In the annual bank rankings for 2003, published byMarket Intelligence in early July, KCB rose to 28th place (out of 44), from 41stplace (out of 45) in 2002. KCB gained on account of its asset base andprofitability, but scored poorly on cost efficiency, its ability to use capital andthe level of NPLs. Standard Chartered Bank reclaimed its status as top bank in2003, followed by Citibank, Barclays Bank and Commercial Bank of Africa. Thefour banks have held the top positions for the past five years.

Foreign trade and paymentsBalance of payments (year to Apr)(US$ m)

2003 2004 % changeMerchandise exports (fob) 2,312 2,498 8.0 Tea 438 434 -1.0 Horticulture 284 372 31.0 Manufactures 204 220 7.8 Re-exports 547 634 15.9 Others 757 756 0.0Merchandise imports (cif) 3,560 4,036 13.4

Trade balance -1,248 -1,538 23.2Invisible trade (net) 1,171 1,537 31.9 Non-factor services (net) 699 877 25.5 Tourism 314 352 12.1 Income (net) -119 -90 24.4 Current transfers (net) 590 750 27.1 Private transfers 590 694 17.6 Public transfers 0 56 �Current-account balance -77 -1 98.7


Exports grew by 8% in the 12 months to end-April 2004, with horticultureleading the way. European flower and vegetable markets currently seem able toabsorb whatever quantity of produce Kenyan growers can provide. At the same

The government reduces itsstake in KCB

The current account moves tonear balance in early 2004

Kenya 31


time, imports expanded by 13.4%, partly because of the 27% year-on-year rise inthe cost of oil purchases; as a result, the trade gap widened to US$1.5bn.However, the surplus on invisible trade leapt by 32%, also to US$1.5bn, owing tohigher inflows from tourism and "servicing charges" for the growing volume ofre-exports. Inflows of net transfers also increased to US$750m, reflecting theresumption of donor support. Overall, the current account was almost inbalance over the period, posting a very small deficit of US$1m. The outlook forthe remainder of 2004 is less promising, because of drought, which will curbagro-exports and drive up the food bill, although invisible earnings remain on asolid, rising path because of tourism and Kenya�s central role in regional trade.

Japanese manufacturers have long dominated Kenya�s consumer electronicsmarket, but that picture is changing as Korean producers seek to boost theirlocal presence and use Kenya as a springboard into East African and CommonMarket for Eastern and Southern Africa (Comesa) markets. They have also beenattracted by the rapid uptake of mobile phones in Kenya. In the latest example,Cellucom, which distributes Samsung Electronics products, has commissioned aKSh7.8m (US$100,000) service centre in Nairobi to cover East Africa, andlaunched its branded reseller network, Cellucom Xpress. The firm has done soby signing an agreement with a local operator, Nakumatt, and will maintain aretailing franchise presence in 11 of Nakumatt�s shops (eight in Nairobi, two inMombasa and one in Kisumu). Cellucom Xpress will offer a 30-minute repairor replacement service for mobile phones, a free warranty that will coverKenya, Tanzania and Uganda (as well as the firm�s home market of Dubai), anda variety of other services. This is the first step in a programme of regionalexpansion; Cellucom is expected to open 30 East African outlets by year-end.

However, Cellucom is likely to face tough competition, not least from anotherKorean producer, LG Electronics, which opened a Nairobi office in July. Atpresent, sales to the Africa/Middle East region account for just 7.5% of LG�sglobal total, but the firm is targeting East and Central African sales of someKSh1.6bn, and to this end is expected to spend KSh300m on marketing, thedevelopment of a local dealer network and after-sales training. According to thefirm, Nairobi will act as a hub for sales to ten countries: Kenya, Tanzania,Uganda, Burundi, Djibouti, Ethiopia, Malawi, Rwanda, Somalia and Sudan. LGopted for a base in Kenya because of the country�s strategic location in terms oftransport links to other regional markets. As with Samsung, LG is also planninga local assembly plant, similar to the one it already has in Egypt. The plant,costing KSh400m (US$5m), would assemble consumer electronic products"including mobile phones"for the East and Central African market. However,the firm�s Nairobi general manager, Won Woo Na, said that faster economicgrowth of at least 5% is probably necessary for a local manufacturing facility tobe viable. He also believes that existing taxes are too high and should be scaleddown to nearer 30%, in line with other markets, to allow for price cuts andrising sales. Kenya!s current high taxes are clearly a problem for the electronicsindustry. Although the Kenyan government has repeatedly stated its wish toattract foreign investment, it is far from clear whether it will be prepared tooffer such tax breaks. Nonetheless, both Samsung and LG seem set to stay, andexpand, in the Kenyan market.

South Korean electronics firmsseek a greater share

Documents

Kenya - iuj.ac.jp · Kenya 1 Country Report August 2004 ' The Economist Intelligence Unit Limited 2004 Contents Kenya 3 Summary 4 Political structure 5 Economic structure 5 Annual