If Kenya was a member of the Euro zone – Lessons in managing debt sustainably

As European leaders convened in Brussels to find solutions—yet again!—to the debt crisis in the Euro zone, Kenyans are witnessing the old continent’s woes with a mix of surprise and self-satisfaction. 

If only Greece had managed its debt like Kenya, Europe would be in a much better shape today. Greece’s debt would be standing at 45 percent of GDP, less than a third of what it actually is. Recent global economic history would need to be rewritten and Europe’s sick nation would be a macroeconomic success, with the luxury of deciding how to spend its resources well, rather than scrambling to mobilize them. 

There are clearly many differences in both countries’ vulnerabilities. Unlike Greece, Kenya did not experience foreign capital inflows, followed by a global financial storm and domestic banking crisis. Also, Kenya’s currency is not pegged to another, which means that it can still use the exchange rate tool to address competitiveness impediments. 

At the same time, if one was to look for a single number which demonstrates Africa’s emergence (and Europe’s decline), debt ratios would be a case in point. 

Many African countries benefited from debt relief over the last ten years, but Kenya’s macroeconomic success is home-made. In 2003, Kenya’s debt stood at 60 percent of GDP. Then, through prudent fiscal policies—particularly strong revenue mobilization—and economic growth, it gradually brought the debt burden down to below 40 percent of GDP by 2008. Back in this comfort zone, it was able to respond to the global financial crisis, the post-election violence, and a severe drought with fiscal stimulus. The amount of debt relief Kenya received (through rescheduling in the 1990s) was trivial, compared to the “hair-cut” that Greece has been receiving.

According to the IMF, Kenya is on track to return to the 40 percent mark within the next two to three years.

Debt dynamics have also been driving global economic change over the last decade. A look at the G20 countries, which recently met at the Annual Summit in Los Cabos, tells the story well. In 2000, the debt of the richest economies (G7) amounted to 68 percent of their cumulated GDP. Back then already, emerging economies (the other 13 members of the G20) were doing better, with debt at 49 percent. Since then, the gap has widened enormously. The advanced economies’ debt increased to 110 percent, while emerging economies further reduced theirs to 36 percent.

Now even the world’s poorest countries have lower debt ratios than most European nations. If Kenya was a member of the Euro-zone, only Estonia and Luxemburg could boast lower debt-to-GDP (see figure).

Figure: If Kenya was in the Euro-zone, it would have the third lowest debt ratio

Source: Calculations based on IMF, Fiscal Monitor (April 2012)

In short, European leaders could borrow a few lessons from Africa on managing debt sustainably. First and foremost, what matters is not the absolute amount of debt, but its proportion to the overall economy. Kenya understood this and always kept its focus on growing the economy. In fact, Kenya’s total debt level (numerator) is higher than it was a decade ago, but its debt ratio is much lower because total GDP (denominator) is much larger. The opening up of the economy through economic reforms, especially in the service sectors, created a growth momentum which benefitted Kenya over the last decade. 

Kenya’s focus on ‘growing the cake’ remained even during the face of global and domestic shocks. As Greece’s modern tragedy shows, your economy will be doomed if you only focus on the numerator, because no country has ever escaped a debt crisis without growing the economy. In 2008, Kenya avoided this mistake, when it enacted a fiscal stimulus program, which despite many challenges, did help to support Kenya’s economy in 2009 and 2010.

Public investments in infrastructure and cash transfers to the poor, are two ways of responding to economic crisis, because these expenditures have high “multiplier effects”. For example, infrastructure projects, such as road construction and employing a lot of the poor and middle class. Poor people don’t sit on their money: they spend it mostly to buy goods and services, which are sold by other poor people. This keeps money moving through the economy, and contributes to growth.

Kenya has been praised—deservedly so—for its wise fiscal policies and sound budget management. But implementing the next budget will be a tough act. The government will need to achieve the “hat-trick” of maintaining fiscal prudence, while continuing to invest in infrastructure, and implementing the new Constitution (ensuring that county governments are well financed and equalization becomes a reality). Only a sustained focus on growing the cake and sharing it equitably, will guarantee that Kenya’s debt levels remain low.

Follow Wolfgang Fengler on Twitter@wolfgangfengler. This article has also been published by Kenya’s “Saturday NATION” in the column “Economics for Everyone”