A Presentation to the Second Commonwealth Stakeholders Conference

A Presentation to the Second Commonwealth Stakeholders Conference on Debt Management Marlborough House, London, U. K. Prof. Njuguna Ndung’u Governor Central Bank of Kenya 31 st March – 1 st April, 2011

Presentation Outline 1. Introduction 2. Kenya’s Debt Management 3. Kenya’s Debt Sustainability 4. Financing growth Key milestones Going forward 5. Conclusion Second Commonwealth Stakeholders’ Conference on Debt Management 2

Introduction The Issuance of government debt is managed by the Central Bank of Kenya acting as an agent of the Ministry of Finance – Treasury While Acting as Agent , the Treasury retains ultimate responsibility for final decisions regarding the overall size of borrowing with CBK acting on issues relating to size and rates provided at individual auctions In the past years Treasury approach to the management of national debt has been significantly revamped and brought in line with best international practice Second Commonwealth Stakeholders’ Conference on Debt Management 3

Debt Management Practice In principle, state borrowing and issuance of financial guarantees is conducted by the Ministry of Finance though ultimate authority is vested in Parliament The Finance Minister submits a budget proposal that must ultimately be passed by Parliament and then becomes part of a binding upper limit of the year’s borrowing Where the need arises for additional borrowing the Constitution requires that this must again be resubmitted to Parliament for further approval Second Commonwealth Stakeholders’ Conference on Debt Management 4

Debt Management Practice. . cont. The Treasury has published a Medium Term Budget Strategy that addresses the projected 3 -5 Year requirements and guides the financing of the budget deficit. The Medium Term Debt Strategy is a public management tool that is linked to the medium term fiscal framework based on revenue projections and planned expenditures consistent with economic growth estimates. Second Commonwealth Stakeholders’ Conference on Debt Management 5

Debt Management Practice. . cont. On an annual basis the budget is presented to Parliament and any additional borrowing needs must similarly be presented for approval The Ministerial expenditure ceilings are provided for in the Budget Outlook Paper and represent affordable and sustainable path of public spending aimed at achieving medium term development priorities. Second Commonwealth Stakeholders’ Conference on Debt Management 6

Debt Sustainability of Public Debt Several indicators of debt sustainability have been formulated, especially in relation to the Highly Indebted Poor Countries (HIPC) Intitiative. Indicators should be computations that relate to the Government’s revenue base and take into account financing the social sector and stimulating growth in the economy. These indicators should provide; Ø Ease of computation Ø Practical relevance Ø Empirical regularity Policy commitment to the path suggested by the indicators is also crucial. Second Commonwealth Stakeholders’ Conference on Debt Management 7

Debt Sustainability. . . cont. The most comprehensive step taken by the HIPC Initiative on the debt problem has been debt relief. However, this cannot guarantee long-term sustainability. A sustainable position will depend on: Ø Debt Stock and Service Payments Ø Fiscal position/ adjustment Ø External repayments capacity Ø Economic expansions and growth Ø New borrowing requirements and terms Second Commonwealth Stakeholders’ Conference on Debt Management 8

Debt Sustainability. . cont. Sustainability as a Forward-Looking Concept Involves formulating a set of possible scenarios as well as projections of the economic environment facing the government. The most improtant components would: Ø Ø Project the future tax expenditure pattern Project the inflation and interest rates Project economic growth rate Project the availability of external resource and creditworthiness of a country. This approach has limitations in that projection calculations are sensitive to exogenous variables, especially external shocks hitting economies in the region. Second Commonwealth Stakeholders’ Conference on Debt Management 9

Debt Sustainability - Kenya According to the World Bank’s Country Policy and Institutional Assessment (CPIA) Index, Kenya is classified as a Medium Performer in terms of the quality of its policies and institutions as measured by a three-year average. Medium Performer, indicative thresholds for external debt sustainability are: Ø Net Present Value (NPV) of Debt/GDP ratio of 40% Ø An NPV of Debt/Exports ratio of 150% Ø An NPV of Debt/Revenue ratio of 250% Ø Debt service/exports ratio of 20% Ø Debt service/revenue ratio of 30% Second Commonwealth Stakeholders’ Conference on Debt Management 10

Debt Sustainability – Kenya. . . Stress tests and alternative scenarios considered were: significant fall in real GDP, § rise in primary balance, § 30% depreciation of the Kenya shilling § and 10% of GDP increase in borrowing, § Stress tests results indicate that Kenya’s level of debt will remain within sustainable levels. External Debt Sustainability Assessment Projected Debt Ratios NPV of Debt-to-GDP 18. 2 19. 8 Baseline 66. 0 69. 2 Combined Shocks 66. 0 71. 5 Baseline 4. 1 Combined Shocks Debt Service-to-Exports 2011 (%) 18. 2 Combined Shocks NPV of Debt-to-Exports Baseline 2010 (%) 18. 2 4. 1 Second Commonwealth Stakeholders’ Conference on Debt Management 11

Debt Sustainability – Kenya. . . Kenya has a low risk of external debt distress reflecting: Ø limited reliance on foreign borrowing Ø improvement in macroeconomic performance. Kenya’s projected debt-ratios for the period, 2011 -2015 fall well below the indicative thresholds for a medium performer. Public debt faces greater risks, particularly in the event of lower growth. Notwithstanding this, Kenya remains at low risk of debt distress. Second Commonwealth Stakeholders’ Conference on Debt Management 12

Financing for Growth 13

Key Milestones. . . cont. Central Bank of Kenya in collaboration with stakeholders in the financial sector initiated domestic debt market development programs. 1. Lengthening of Debt Maturity Profile Prior to 2002, Government domestic debt market was dominated by short term debt instruments; Government domestic debt portfolio stood at a ratio of 70: 30 (T/Bills : Bonds) with an average debt maturity profile of 0. 7 years Ø This necessitated the government to come up with a policy to restructure the domestic debt portfolio. Currently average years to maturity of government securities stand at 5. 2. Ø In 2008, CBK issued the first long-dated paper of 20 -years to maturity. Ø This was followed by successful issuance of a 25 -year Bond in 2010 and a debut 30 -year savings development bond in 2011. Ø Second Commonwealth Stakeholders’ Conference on Debt Management 14

Key Milestones. . . cont. 2. Infrastructure Bonds issuance A major milestone-Infrastructure bond first issued in 2009. A total of four infrastructure bonds have been issued since 2009. This has seen even corporate institutions venture into the Infrastructure bonds avenue Proceeds from these bond issues are specifically meant for financing certain infrastructural projects Second Commonwealth Stakeholders’ Conference on Debt Management 15

Key Milestones. . . cont. Infrastructure Bonds Issuance Debut IB worth Ksh 18. 5 bn (USD 231. 25 mn) was successfully issued in February 2009. Largest successful single IB of USD 395 mn issued in August 2010. Three other IBs of total value: USD 807. 5 mn issued so far. Transparency: targeted projects factored in the annual Budget of the Government under development expenditure Ø Spatial distribution of the projects around the country very important for regional equity Ø Enhance success rate of the bond. Second Commonwealth Stakeholders’ Conference on Debt Management 16

Targeted Projects/Sectors Unlike conventional bonds, IBs proceeds target specific projects, with potential for sustaining reliable income streams and great economic value. Transport Sector – e. g. Construction of new roads and rehabilitation of old ones. Water sewerage and irrigation – e. g. Construction of water supply and sewerage systems, water reservoir dams, boreholes and irrigation schemes around the country. Energy – e. g. Drilling of Electricity Generating Steam Wells (geothermal), upgrading the National Grid System with New Transmission Lines and expanding the Rural Electrification Project. Second Commonwealth Stakeholders’ Conference on Debt Management 17

Infrastructure Bonds Funding in Transport Sector Roads Sub-Sector Second Commonwealth Stakeholders’ Conference on Debt Management 18

Infrastructure Bonds Funding in Energy Sector Geothermal Energy Sub-Sector

Infrastructure Bonds Funding in Water Sector Water Supply and Irrigation 20

Key Milestones. . . cont. 4. Introduction of Savings Development Bond In 2011 the CBK in cognizance of the tenets of Kenya’s Vision 2030 of promoting savings among the Kenyan populace, successfully issued a debut 30 -year Savings Development Bond tourist season. Second Commonwealth Stakeholders’ Conference on Debt Management 21

Key Milestones. . . cont. 5. Benchmark Bond Program In 2007, the CBK adopted the introduction of a benchmark bond program to address the problem of bond fragmentation and thereby improve liquidity at the secondary market and firm up the yield curve. This initiative and other debt market developments have seen the secondary market activity improve with annual turn over increasing from Ksh. 84. 14 Bn ($1. 05 Bn) in 2009 to Ksh. 466. 07 Bn ($5. 83 Bn) in 2010. Second Commonwealth Stakeholders’ Conference on Debt Management 22

Key Milestones. . . cont. 6. Secondary Market Infrastructure In 2008, the CBK in partnership with the Nairobi Stock Exchange adopted the Automated Trading System (ATS) for Treasury bonds. The Adoption of ATS has improved efficiency and confidence in the Secondary bond market with the settlement cycle shortening to T+3 2008 also saw the introduction of Horizontal Repurchase Agreements between commercial banks to improve liquidity in the market. Second Commonwealth Stakeholders’ Conference on Debt Management 23

Looking Forward Market Makers (MMs) – To develop the secondary market further, Kenya will rollout Market Makers window by end of first half of 2011 to achieve 2 way price quote and commitment by MMs to make the market. Over-the-Counter (OTC) Platform – Kenya is also working on OTC trading platform for bonds to operate alongside the exchange-traded platform. This platform will also be used to trade Treasury bills. Second Commonwealth Stakeholders’ Conference on Debt Management 24

Looking Forward. . . cont. Primary Market structure – CBK to adopt online bidding for institutional investors ; agency arrangement for retail investors and direct participation by non-institutional investors in the primary market. Financial Literacy Programme – More structured investor education programme in the pipeline. Improved Co-ordination between the Treasury (Principal), Central Bank (Agent) and the Market (Investing Public). Close co-ordination between Monetary and Fiscal Policy – Use of MTDS very crucial. Second Commonwealth Stakeholders’ Conference on Debt Management 25

Conclusion In summary, preserving long term debt sustainability depends on a friendly policy environment with macro- economic stability and leading to a sustained growth path. To do this it is necessary to; Ø Improve governance and conflict resolution both internally and externally. Ø Invest in People. Ø Increase competitiveness and diversify economies. Ø Reduce aid dependence and strengthen partnerships. 26

THANK YOU Second Commonwealth Stakeholders’ Conference on Debt Management 27