Kenya at a Glance: 2001-02

COUNTRY REPORT

Kenya Kenya at a glance: 2001-02

OVERVIEW Political stability in Kenya is not expected to improve greatly during the forecast period, when electoral pressures will intensify internal conflicts within the ruling Kenya African National Union and the opposition parties. Relations with the IMF will remain difficult, and the government’s hope for a resumption of donor support is highly unlikely to be fulfilled in 2001. Although economic reforms will continue to shape policy, divestment of state assets and retrenchment of the public sector will make only slow, if any, progress. The rate of real GDP growth is forecast to edge up gently to 2% in 2001 and accelerate to 3.5% in 2002, supported by higher agricultural and industrial output. However, lower external pressures on inflation, combined with fairly tight fiscal and monetary policy, should allow the inflation rate to fall in 2001-02. Key changes from last month Political outlook • The Kenyan government’s failure to push an anti-corruption bill—a crucial prerequisite for the resumption of IMF-World Bank support— through parliament on August 14th does not bode well for the country. Economic policy outlook • The current impasse between the IMF-World Bank and the Kenyan government is not expected to change for the remainder of this year. • Since access to external funds will be extremely limited, spending in the 2001/02 fiscal year will be subject to some cuts and the fiscal deficit will continue to be financed domestically. Economic forecast • The current-account deficit is now expected to widen from an estimated 1.3% of GDP in 2000 to 2.4% of GDP in 2001 and to 2.7% of GDP in 2002, largely because of smaller inflows of net transfers.

August 2001

The Economist Intelligence Unit 15 Regent St, London SW1Y 4LR United Kingdom The Economist Intelligence Unit The Economist Intelligence Unit is a specialist publisher serving companies establishing and managing operations across national borders. For over 50 years it has been a source of information on business developments, economic and political trends, government regulations and corporate practice worldwide. The EIU delivers its information in four ways: through our digital portfolio, where our latest analysis is updated daily; through printed subscription products ranging from newsletters to annual reference works; through research reports; and by organising seminars and presentations. The firm is a member of The Economist Group.

London New York Hong Kong The Economist Intelligence Unit The Economist Intelligence Unit The Economist Intelligence Unit 15 Regent St The Economist Building 60/F, Central Plaza London 111 West 57th Street 18 Harbour Road SW1Y 4LR New York Wanchai United Kingdom NY 10019, US Hong Kong Tel: (44.20) 7830 1007 Tel: (1.212) 554 0600 Tel: (852) 2585 3888 Fax: (44.20) 7830 1023 Fax: (1.212) 586 0248 Fax: (852) 2802 7638 E-mail: [email protected] E-mail: [email protected] E-mail: [email protected]

Website: www.eiu.com

Electronic delivery This publication can be viewed by subscribing online at www.store.eiu.com Reports are also available in various other electronic formats, such as CD-ROM, Lotus Notes, online databases and as direct feeds to corporate intranets. For further information, please contact your nearest Economist Intelligence Unit office

Copyright © 2001 The Economist Intelligence Unit Limited. All rights reserved. Neither this publication nor any part of it may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior permission of The Economist Intelligence Unit Limited. All information in this report is verified to the best of the author's and the publisher's ability. However, the EIU does not accept responsibility for any loss arising from reliance on it.

ISSN 0269-4239

Symbols in tables “n/a” means not available; “–” means not applicable

Printed and distributed by Patersons Dartford, Questor Trade Park, 151 Avery Way, Dartford, Kent DA1 1JS, UK. Kenya 1

Contents

3 Summary

4 Political structure

5 Economic structure 5 Annual indicators 6 Quarterly indicators

7 Outlook for 2001-02 7 Political outlook 8 Economic policy outlook 9 Economic forecast

12 The political scene

17 Economic policy

22 The domestic economy 22 Economic trends 23 Agriculture 24 Tourism 25 Energy 25 Infrastructure

26 Foreign trade and payments

List of tables

10 International assumptions summary 11 Forecast summary 15 Corruption perceptions index 18 Government expenditure 19 Development expenditure, 2001/02 20 Government revenue 22 Gross domestic product 22 Monetary indicators 23 Proposed sugar import quotas 24 Tea production 25 Tourism statistics

List of figures

12 Gross domestic product 12 Kenya shilling real exchange rates 20 Gross domestic product and manufacturing output

EIU Country Report August 2001 © The Economist Intelligence Unit Limited 2001 Kenya 3

Summary

August 2001

Outlook for 2001-02 Political instability in Kenya is not expected to improve greatly during the forecast period, when electoral pressures will intensify internal conflicts within the ruling Kenya African National Union and within the opposition parties. Relations with the IMF will remain difficult, and the Kenyan government’s hope for a resumption of donor support is unlikely to be fulfilled in 2001. Although economic reform will continue to shape policy, divestment of state assets and retrenchment of the public sector will make slow, if any, progress. The rate of real GDP growth is forecast to edge up gently, to 2% in 2001 and 3.5% in 2002, thanks to higher agricultural and industrial output. However, lower external pressure on inflation, combined with fairly tight fiscal and monetary policy, should allow the inflation rate to fall in 2001-02. The current- account deficit is forecast to increase slightly, owing to lower net transfers.

The political scene President Moi’s decision to appoint members of the National Development Party to government has set the stage for a coalition-type government for the first time in Kenya’s post-independence history. Meanwhile, in mid-August the government failed to obtain the necessary two-thirds majority in parliament to pass the Anti-Corruption and Economic Crimes Bill. If passed, the bill would have led to the establishment of an anti-corruption authority, and paved the way for the resumption of donor support in September.

Economic policy The government’s commitment to economic reform has been confirmed with the announcement of the budget for the 2001/02 fiscal year. But limited access to external funds will force the government to cut fiscal spending and continue to tap the domestic market to meet its financing needs.

The domestic economy Real GDP is estimated to have contracted by 0.3% in 2000, with agriculture and manufacturing being most adversely affected. Inflation has continued its steady downward trend so far in 2001, and reached 7.2% in June owing to a substantial drop in food prices. The Kenya government has rejected an offer by the Egyptian company, Orascom, to purchase a 49% share in Telkom Kenya. A concerted effort by the government to promote tourism yielded positive results in the first half of 2001.

Foreign trade and payments Trade relations between the United States and Kenya have improved significantly, following the introduction of the Africa Growth And Opportunity Act. This has been particularly beneficial for the textile industry in Kenya, which now enjoys duty-free access to the US market. The lifting of the ban on local fish by the EU has increased Kenyan fish exports.

Editors: Pratibha Thaker (editor); David Cowan (consulting editor) Editorial closing date: August 14th 2001 All queries: Tel: (44.20) 7830 1007 E-mail: [email protected] Next report: Full schedule on www.eiu.com/schedule

Political structure

Official name Republic of Kenya

Form of state Unitary republic

Legal system Based on English common law and the 1963 constitution; a new constitution is expected to be in place by December 2001

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

National elections December 1997 (presidential and legislative); next elections due by end-2002

Head of state President, directly elected by simple majority and at least 25% of the vote in five of Kenya’s eight provinces

National government The president and his cabinet, composed entirely of members of the ruling Kenya African National Union (KANU); last major reshuffle in September 1999, when the number of ministries was reduced from 27 to 15

Political parties in parliament KANU (117 seats); Democratic Party (DP, 40 seats); National Development Party (NDP, 22 seats); Forum for the Restoration of Democracy (Ford-Kenya; 18 seats); Social Democratic Party (SDP, 14 seats); Safina (5 seats); Ford-People (3 seats); Ford-Asili (1 seat); Kenya Social Congress (KSC, 1 seat); Shirikisho (1 seat)

President & commander-in-chief Daniel arap Moi Vice-president George Saitoti

Key ministers Agriculture, livestock Bonaya Adhi Godana, & rural development Hussein Maalim Mohammed Education, science & technology Henry Kosgey Energy Raila Odinga Environment & natural resources Kipng’eno arap N’geny, Francis Nyenze, Jackson Kalweo Finance & planning Chrysanthus Okemo, Gideon Ndambuki Foreign affairs & international co-operation Bonaya Adhi Godana Health Sam Ongeri Home affairs, heritage & sport Noah Katana Ngala Information, transport & communications Musalia Mudavadi Labour and human resource development Isaac Ruto, Joseph Ngutu Lands & settlement Joseph Nyagah Local government Joseph Kamotho Office of the president Marsden Madoka, Julius Sunkuli, Shariff Nassir, William ole Ntimama Roads & public works Andrew Morogo Tourism, trade & industry Nicholas Biwott Attorney-general Amos Wako

Head of the civil service Sally Kosgei

Central Bank governor Nahashon Nyagah

EIU Country Report August 2001 © The Economist Intelligence Unit Limited 2001 Kenya 5

Economic structure

Annual indicators

1996 1997 1998 1999 2000a GDP at market prices (KSh bn) 528.0 623.4 692.1 748.9 743.6 GDP (US$ bn) 9.2 10.6 11.5 10.6 9.8 Real GDP growth (%) 4.1 2.1 1.6 1.3 –0.3b Consumer price inflation (av; %) 8.8 12.0 5.8 2.6 5.8 c Population (m) 26.7 27.3 28.0 28.7 29.4 Exports of goods fob (US$ m) 2,083 2,063 2,013 1,741 1,705 Imports of goods fob (US$ m) 2,598 2,948 3,029 2,570 2,935 Current-account balance (US$ m) –73 –377 –363 11 –123 Foreign-exchange reserves excl gold (US$ m) 746.5 787.9 783.1 791.6 897.7 c Total external debt (US$ bn) 6.9 6.6 6.9 6.6 6.0 Debt-service ratio, paid (%) 27.8 22.3 21.1 26.7 31.7 Exchange rate (av) KSh:US$ 57.11 58.73 60.37 70.33 76.18 c

August 17th 2001 KSh78.4:US$1

Origins of gross domestic product 1999 % of total Components of gross domestic product 1999 % of total Agriculture, forestry & fishing 24.5 Private consumption 71.6 Manufacturing 13.2 Government consumption 16.9 Trade, restaurants & hotels 12.5 Gross domestic investment 15.1 Transport, storage & communications 6.0 Stockbuilding 0.1 Government services 14.5 Exports of goods & services 25.0 Others (net) 29.3 Imports of goods & services –29.6 GDP at factor cost 100.0 GDP at market prices 100.0

Principal exports 1999 US$ m Principal imports cif 1999 US$ m Tea 431 Industrial machinery 426 Horticultural products 178 Refined petroleum products 255 Coffee 165 Crude petroleum 233 Petroleum products 100 Motor vehicles & chassis 215 Fish products 25 Iron & steel 100 Cement 18 Resins & plastics 94

Main destinations of exports 1999 % of total Main origins of imports 1999 % of total UK 13.5 UK 12.0 Tanzania 12.5 United Arab Emirates 9.8 Uganda 12.0 Japan 6.5 Germany 5.5 India 4.4 a EIU estimates. b Provisional estimates. c Actual.

Quarterly indicators

1999 2000 2001 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr Central government finance (KSh m) Revenue & grants 42,516 46,351 49,365 50,172 n/a n/a n/a n/a Expenditure & net lending 42,721 45,410 58,636 33,063 n/a n/a n/a n/a Balance –205 941 –9,271 17,109 n/a n/a n/a n/a Prices Consumer prices, Nairobi (1995=100) 133.7 133.7 135.8 139.3 142.1 143.4 141.9 140.3 % change, year on year 3.7 7.6 5.4 4.6 6.3 7.3 4.5 0.7 Financial indicators Exchange rate KSh:US$ (av) 74.40 74.77 72.78 75.96 77.02 78.95 78.20 78.22 KSh:US$ (end-period) 77.07 72.93 74.87 77.95 78.99 78.04 77.82 78.99 Interest rates (%) Deposit (av) 8.32 10.67 10.88 8.68 6.51 6.32 7.02 n/a Discount (end-period) 22.74 26.46 17.90 16.01 16.59 19.47 20.42 n/a Lending (av) 21.83 24.25 24.77 23.32 21.40 19.87 20.20 n/a Treasury bill (av) 15.50 18.98 14.36 11.09 9.94 12.81 14.98 n/a M1 (end-period; KSh bn) 103.15 109.51 109.85 107.70 112.19 118.97 117.47 n/a % change, year on year 18.9 16.4 6.3 3.3 8.8 8.6 6.9 n/a M2 (end-period; KSh bn) 319.70 328.29 325.44 324.39 334.51 343.02 341.62 n/a % change, year on year 6.4 6.0 1.2 0.4 4.6 4.5 5.0 n/a Stockmarket NSE 20 (1996=100) 2,428 2,303 2,233 2,003 2,004 1,913 1,831 1,657 % change, year on year –13.6 –22.2 20.7 –27.6 –17.5 –16.9 –18.0 –17.3 Sectoral trends Production (annual totals; ‘000 tonnes) Te a ( 2 5 1 ) ( 2 3 9 a ) n / a n / a C o f f e e : u n r o a s t e d ( 9 5 ) ( 6 7 a ) n / a n / a Foreign trade (KSh m) Exports fob 29,537 29,083 31,724 33,000 31,594 35,865 n/a n/a Imports cif –48,772 –52,275 –55,099 –56,418 –69,108 –55,988 n/a n/a Trade balance –19,235 –23,192 –23,375 23,418 –37,514 –20,123 n/a n/a Foreign reserves (US$ m) Reserves excl gold (end-period) 687.2 791.6 820.5 808.6 856.6 897.7 928.4 954.9 a Estimate. Sources: FAO; IMF, International Financial Statistics; Central Bank of Kenya, Monthly Economic Review.

EIU Country Report August 2001 © The Economist Intelligence Unit Limited 2001 Kenya 7

Outlook for 2001-02

Political outlook

Domestic politics President Daniel arap Moi’s decision to appoint Raila Odinga and three other members of the National Development Party (NDP) to government on June 11th has radically transformed Kenya’s political landscape, setting the stage for a coalition-type government for the first time in Kenya’s post-independence history. Mr Odinga was appointed minister for energy; Dr Adhu Awiti was appointed minister for planning and national development; Peter Odoyo was appointed assistant minister for foreign affairs; and Joshua Ojode takes up the post of assistant minister for education, science and technology. The appointment of NDP members of parliament to the cabinet came as a surprise, since the possibility of a coalition between the ruling Kenya African National Union (KANU) and the NDP had seemed to be dwindling.

The appointment of the NDP members to government has fuelled speculation that President Moi does not intend to relinquish power, when he completes his last constitutional term in office at the end of 2002. During the past two years KANU has relied increasingly on the NDP to pass or defeat contested motions in parliament, particularly as support from “rebel” MPs cannot be depended upon. NDP support has been—and will continue to be—absolutely vital with regard to the constitutional review process. For example, it was support from the NDP that carried through Mr Moi’s insistence that the constitutional review process be driven by parliament, as opposed to the consultative stakeholder forum agreed at Safari Park in 1998. Subsequently, the KANU-NDP parliamentary partnership has been heavily involved in designing and dictating the course of the constitutional review process it now controls. The constitution produced by the Constitution of Kenya Review Commission, led by Professor Yash Pal Ghai, is therefore likely to be favourable to the KANU- NDP succession agenda.

The departure in April of Richard Leakey, the head of the civil service, and four key members of his economic recovery team—including Micah Cheserem, the governor of the Central Bank of Kenya—places the civil service firmly in the hands of the ruling elite once more. The replacements for Dr Leakey and Mr Cheserem have reiterated their commitment to public-sector reform and prudent economic policies. However, there is fear that the ousting of leading reformers from important positions is a sign that President Moi’s agenda will be dictated not by the need for structural reforms and economic recovery, but by the 2002 elections and the succession battle.

Constitutional reform is also expected to remain at the forefront of political debate in Kenya. Following the approval of the Constitutional Review Act by the president, Professor Ghai’s commission started on the constitutional review in July. The review work is expected to last for at least two years. This means that separate minimum constitutional reforms will need to be developed and to pass through parliament if elections are to be held in December 2002. The Economist Intelligence Unit expects progress to be slow, as KANU hardliners

within government will continue to block any constitutional reforms that might threaten their party’s dominant position at the next election. The opposition will remain weak and unable to pose a serious threat to KANU and President Moi, and the loyalty of the state institutions, such as the army, is not expected to change.

International relations Kenyan foreign policy will remain dominated by regional issues. These include efforts to promote greater regional integration through the recently launched East African Community, and the problem of political instability in the Horn of Africa, which is causing bandit activity and an influx of refugees in north-eastern Kenya. Progress on resolving both these issues will be slow.

Economic policy outlook

Policy trends The need to restore IMF support and other donor funds will continue to dominate the government’s economic policy in the coming months. However, following the government’s failure to push through an anti-corruption bill—a crucial prerequisite for the resumption of IMF-World Bank support—in parliament on Aug 14th, the current impasse between the IMF and World Bank and the Kenyan government is not expected to change for the remainder of this year. A World Bank and IMF mission to Kenya in late July was dissatisfied with progress in attaining the critical performance criteria agreed in 2000, particularly over the main contentious issues, namely the two anti-corruption bills and the sale of Telkom Kenya. It is clear that the whole programme is in danger of falling apart if the government does not take serious action on governance issues and demonstrate its commitment to economic reform. Since most of the outstanding issues, except the privatisation of Telkom Kenya, relate to legislation on economic governance and must therefore be dealt with by parliament, progress is expected to be slow.

We consider the resumption of IMF lending to be crucial to Kenya’s economic prospects. Our baseline scenario assumes that the government recognises the importance of retaining multilateral approval of its economic policies, and that it will broadly follow the commitments it made to secure an IMF poverty reduction and growth facility (PRGF) in the second half of 2000, thus prompting a resumption of donor support in 2002. In such circumstances, financing the budget deficit is likely to become extremely problematic, and local institutions will demand high yields in return for their support. Higher interest rates would raise the cost of borrowing and curb GDP growth, and there would be a consequent deterioration of the public debt/GDP ratio and fiscal solvency. Funds committed by other lenders are also at stake, including US$100m from the World Bank for civil service reform.

Fiscal policy Tight fiscal policy, aimed at reducing the budget deficit, will remain an important priority in the 2001/02 financial year. Guided by a combination of the medium-term expenditure framework and the poverty reduction strategy paper, the finance minister, Chris Okemo, has announced a bold budget for 2001/02. The Kenyan economy is now forecast to grow by an average of only 2.9% per year in 2001-05, down from growth of around 6% per year in the latter

EIU Country Report August 2001 © The Economist Intelligence Unit Limited 2001 Kenya 9

half of the 1980s, and the finance minister has acknowledged that new ways must be found to tackle the general government deficit if future deficit- reduction targets are to be met. The 2001/02 fiscal deficit is forecast at 2.5% of GDP, from a modest surplus of 0.6% of GDP in 2000/01. Total expenditure is set at KSh246.9bn (US$3.11bn). In terms of spending, the minister has indicated that the budget will focus mainly on civil service reform (11,230 public-service workers are expected to be made redundant, at a cost of KSh3bn), education, and the HIV/AIDS awareness campaign.

However, this is unlikely to be sufficient to enable the government to meet its 2001/02 budget deficit target, particularly as economic growth and fiscal revenue—forecast to rise to KSh218.6bn, or 24% of GDP—is likely to fall well short of official projections. The fiscal position is made even more uncertain by the government’s reluctance to make progress with the sale of state assets, particularly Telkom Kenya. However, the main surprise in the budget is that it is premised on the resumption of IMF funding, and other donor support, from July. We therefore forecast that total revenue will continue to fall short of official targets, and now expect the overall fiscal balance to return to a deficit of 3% of GDP in 2001/02, rising to 4% of GDP in 2002/03. Because access to external funds will remain extremely limited, at least for the most part of this year, budget deficits will continue to be financed mainly through the issue of Treasury bills and bonds.

Monetary policy We expect some minor shifts in monetary policy, following the appointment of a new governor of the Central Bank of Kenya, but overall policy will remain geared towards maintaining the relative strength of the currency and keeping inflation in check. Falling US interest rates will be matched by a slight fall in domestic interest rates, but heavy government borrowing in the domestic capital market—to finance the fiscal deficit—will keep interest rates high. The monetary authorities will need to maintain a cautious stance on any interest rate reductions if they are to avoid boosting inflationary pressures or contributing to exchange-rate nervousness.

Economic forecast

International assumptions Global growth is expected to slow in 2001 and 2002, though it is unlikely to stall. The exceptionally strong growth rate of 4.9% in 2000 will inevitably moderate. The forecast rate of 2.7% in 2001 is the same as in 1998 at the height of the Asia crisis; GDP growth rises to 3.7% in 2002. Prospects for the prices of Kenya’s main commodity exports will be mixed during the outlook period; the price of arabica coffee is forecast to decline from 87.1 US cents/lb in 2000 to 57 US cents/lb in 2002, while tea prices are forecast to fall to US$1.7/kg in 2001 and to US$1.6/kg in 2002. Oil prices are also expected to fall, to US$26.85/barrel in 2001 and US$25.54/b in 2002, offering only a marginal easing in the energy import bill.

International assumptions summary (% unless otherwise indicated) 1999 2000 2001 2002 Real GDP growth World 3.6 4.9 2.7 3.7 OECD 3.1 4.0 1.4 2.4 EU 2.5 3.4 2.0 2.5 Exchange rates (av) ¥:US$ 114 108 123 124 US$:¤ 1.07 0.92 0.88 0.96 US$:SDR 1.37 1.32 1.26 1.30 Financial indicators ¥ 2-month private bill rate 0.27 0.24 0.18 0.10 US$ 3-month commercial paper rate 5.18 6.32 4.06 4.75 Commodity prices Oil (Brent; US$/b) 17.9 28.5 26.9 25.5 Gold (US$/troy oz) 278.8 279.3 263.0 255.0 Tea (US$/kg) 1.8 1.9 1.7 1.6 Coffee: Arabica (US cents/Ib) 103.9 87.1 66.0 57.0 Food, feedstuffs & beverages (% change in US$ terms) –18.6 –6.1 1.2 15.0 Industrial raw materials (% change in US$ terms) –4.6 13.4 –3.5 3.8

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

Economic growth Our evaluation of Kenya’s economic prospects remains essentially unchanged, following a major downward revision, in June, of our real GDP growth forecast for 2001-02. The IMF’s decision in July to continue to withhold funds under the current PRGF agreement is also expected to halt other donor inflows for most of this year, forcing the government to cut development expenditure. The Fund’s decision will also have other effects: the business community will become even more cautious about spending and project aid disbursements will be reduced dramatically, further delaying the start of the long-awaited overhaul of Kenya’s physical infrastructure. In addition, interest rates will be kept high by the government’s need to borrow to finance the budget, and this will prevent a more robust economic recovery in the short term. Delays in the payment of public-sector wages are expected to affect consumer confidence and the growth of private consumption.

On a more positive note, assuming that growth in the tourist industry continues—combined with the return of the rains and the end of power rationing—the economy is expected to begin to recover gently in 2001, and to accelerate next year. Private-sector activity and investment should also receive a boost as the government makes progress on its long-delayed privatisation programme. These factors will all help to push real GDP growth to 2% in 2001. Assuming that donor support resumes in 2002, combined with favourable weather, overall real GDP growth is forecast to accelerate to 3.5%.

Inflation According to the Central Bank of Kenya, average annual inflation was 5.8% in 2000, compared with 2.6% in 1999. This rise in inflation was driven primarily by the effect of the drought on food prices and by rising petroleum prices. The government’s target of 5% underlying inflation is likely to be achieved by mid-

EIU Country Report August 2001 © The Economist Intelligence Unit Limited 2001 Kenya 11

2001 if monetary policy remains on track and there is no major depreciation of the currency, though headline inflation will be more difficult to bring down. However, the real test for the monetary authorities will come when the economy starts to recover, and supply constraints—such as the country’s poor transport infrastructure—exert renewed upward pressure on prices. We therefore expect inflation to fall only slightly, averaging 5% in 2001 and 4% in 2002.

Exchange rates Relations between Kenya and the IMF will remain tense, and it is assumed that the current agreement will remain suspended for the remainder of 2002, in which case the shilling will continue to come under pressure. However, in line with firm data for the first seven months of this year, rising foreign reserves and continuing tight monetary policy, the shilling is forecast to depreciate only gently, averaging KSh79.43:US$1 in 2001 and KSh85.90:US$1 in 2002.

Forecast summary (% unless otherwise indicated) 1999a 2000b 2001c 2002c Real GDP growth 1.3 –0.3 2.0 3.5 Industrial production growth 1.0 –2.5 1.6 3.5 Gross agricultural production growth 1.3 –2.4 4.0 5.0 Consumer price inflation Average 2.6 5.8 5.0 4.0 Year-end 3.0 6.0 5.5 4.5 Short-term interbank rate 22.4 22.3 23.0 22.0 Government balance (% of GDP) –1.3 0.6 –3.0 –4.0 Exports of goods fob (US$ bn) 1.7 1.7 1.8 1.9 Imports of goods fob (US$ bn) 2.6 2.9 3.2 3.4 Current-account balance (US$ bn) 0.0 –0.1 –0.2 –0.2 % of GDP 0.1 –1.3 –2.4 –2.7 External debt (year-end; US$ bn) 6.6 6.0 5.7 6.0 Exchange rates KSh:US$ (av) 70.33 76.18 79.43 85.90 KSh:¥100 (av) 61.74 70.69 66.58 68.28 KSh:¤ (year-end) 73.27 73.27 75.54 86.64 KSh:SDR (year-end) 100.1 101.7 106.0 114.0

a Actual. b EIU estimates. c EIU forecasts.

External sector Forecasts of Kenya’s current-account deficit in 2001-02 have also been revised upwards. The current-account deficit is now expected to widen from an estimated 1.3% of GDP in 2000 to 2.4% of GDP in 2001 and 2.7% of GDP in 2002, largely because of lower net transfers—particularly in 2001—following the IMF’s decision to withhold funds. Growth in the country’s main exports will also be disappointing because of continuing weak commodity prices for coffee and tea, though this will be offset partly by the growth of non- traditional exports and by slower import growth and rising tourism receipts in 2001-02.

Total exports are expected to grow marginally, from an estimated US$1.7bn in 2000 to US$1.8bn in 2001, and to just under US$2bn in 2002, thanks to a modest upturn in export volumes and in the prices of more traditional exports.

Imports are also expected to rise in the forecast period, reflecting the recovery of economic activity, and the trade deficit will increase moderately. Net transfers are now forecast to edge up from US$600m in 2001 to US$700m in 2002, in line with the resumption of donor support. Tourism receipts are also forecast to continue to increase in 2001-02.

The political scene

The succession to Mr Moi is The appointment of Raila Odinga and three of his National Development Party far from resolved (NDP) colleagues to the cabinet in June 2001 has radically transformed Kenya’s political landscape. Co-operation between KANU and the NDP, which seemed to be running into problems earlier in the year over the apparent unwillingness of NDP to support a motion to extend President Moi’s presidency for a third term, has now moved to a more advanced level of partnership, with the appointment of Mr Odinga to the influential portfolio of minister of energy and of Adhu Awiti to the post of minister for planning and national development. Two other NDP MPs, Peter Odoyo and Joshua Ojode, were appointed as assistant minister for foreign affairs and assistant minister for education, science & technology, respectively. The combined strength of the two parties in parliament is now 140 seats out of a total of 222 seats (KANU has 118 seats; the NDP has 22 seats).

For the partnership to have a sustained effect on Kenyan politics the NDP and KANU will need to consider the more serious step of a full merger. A proposal by the NDP, supported by President Moi, to attend the KANU national delegate conference on August 15th has generated considerable controversy and a split within KANU. A recent joint KANU-NDP parliamentary group meeting, to discuss the participation of the NDP in the conference ended in disarray, with a number of KANU MPs flatly opposing a merger of the two parties. However, the delegate meeting is aimed at developing a common strategy for KANU and the NDP on the constitutional review process and the implementation of minimum political reforms before the elections in 2002. Moreover, it would

EIU Country Report August 2001 © The Economist Intelligence Unit Limited 2001 Kenya 13

clarify the position of the two parties on the introduction of the post of prime minister in the revised constitution. Some KANU members are not happy with the speed with which the partnership is proceeding, and it remains to be seen whether the merger will survive. In the meantime, the opposition’s search for a single presidential candidate for the election in 2002 is having little success. It is unlikely that the opposition can produce a consensus candidate, given the vested interests of the different opposition leaders and the deep-seated divisions between them.

Key presidential candidates for 2002 elections:

Daniel Arap Moi: Mr Moi is one of Africa’s longest serving presidents (since 1978) and has been in active politics since 1952. A Kalenjin from the Tugen sub-tribe, Mr Moi is serving his last term in office under the current constitution, which was amended in 1992 to allow political pluralism. There is no certainty, however, that Mr Moi will relinquish power. The recent entry of the National Development Party into government has further complicated the matter of the succession to Mr Moi. Mr Moi could easily manipulate a constitutional reform to enable him to run in 2002, or even to extend the life of parliament under the pretext of completing the constitutional review process itself. Such a move would face stiff opposition from the donor community, the opposition parties and civil society groups.

Simeon Nyachae: A former finance minister who resigned from the cabinet, following his appointment to another ministerial portfolio. Mr Nyachae is an ethnic Kisii who impressed donors with his commitment to the economic reform programme. He enjoys considerable support in the private sector and among young professionals and donors, and is considered a strong contender for the presidency in 2002 However he has not publicly stated which party he might stand for, and at present remains with KANU. Mr Nyachae is perhaps the most ardent critic of the current regime and would be an asset to any opposition party that he allied himself with. He is the only political leader proposing a transitional government of national unity in the post-Moi era. Political analysts believe that any small mistake by President Moi in naming his successor would benefit Mr Nyachae.

Wycliffe Musalia Mudavadi: A former finance minister, he currently holds the portfolio of information, transport and communications. He has significant support within the reforming wing of KANU, and is a strong contender for his party’s presidential nomination in 2002. He belongs to the Luhya tribe, the second largest ethnic group in Kenya; his nomination would significantly influence the outcome of the presidential election, since it would swing the Luhya vote to KANU.

George Saitoti: The current vice-president and minister for home affairs, Mr Saitoti is still the front-runner to succeed President Moi. He is an intelligent politician whose survival as vice-president is largely attributed to his ability to organise and mobilise the party’s grass-roots. How he brings his skills to bear in the succession race will be interesting to watch. However, he is unlikely to be President Moi’s first choice. Brought up in a Maasai region though of Kikuyu parentage, he has been unsuccessful in improving the links between KANU and

the Kikuyu. A Saitoti candidacy could see KANU lose considerable support, particularly in Western province, to the Ford-Kenya chairman, Kijana Wamalwa, since most voters are staying with KANU in the hope that Mr Mudavadi will be named the successor.

Raila Odinga: A son of the late Jaramogi Oginga Odinga, the father of opposition politics in Kenya, Mr Odinga commands considerable (if not total) support of the Luo vote (estimated at 750,000). He is currently chairman of the National Development Party (NDP) and was appointed to government in June 2001 as minister for energy, following a mini-cabinet reshuffle that saw President Moi appoint three other members of the NDP into the cabinet— bringing in a coalition government in Kenya for the first time since independence. Mr Odinga’s ambitions to lead Kenya will largely depend on the results of the constitutional reform exercise that he chairs, and partly on the kind of deal he brokers with KANU (he does not enjoy a national constituency that would enable him win the presidency under the current constitution).

Mwai Kibaki: Following the resignation of Kenneth Matiba from active politics, Mr Kibaki’s Democratic Party (DP) has emerged as the dominant party of the Kikuyu (the most populous and prosperous tribe in Kenya). Currently, the DP is the largest and official opposition party, with 40 seats in parliament. An economist by training, Mr Kibaki is a former vice-president and minister for finance. Despite Mr Kibaki’s popularity among the Kikuyu, he is unlikely to get much support from the smaller ethnic groups, which fear marginalisation under a Kikuyu presidency.

Parliament rejects the The government faces an uphill task in bridging the KSh25bn budget gap crucial anti-corruption bill during the 2001/02 financial year (July-June), following its failure to obtain the 145 votes required to pass the Anti-Corruption and Economic Crimes Bill following days of intensive debate in parliament. The bill failed to win the mandatory two-thirds majority in parliament in the first week of August, prompting the speaker of the National Assembly to call for a second vote, which took place on 14th August. The second vote, for which President Moi, personally turned up in parliament for the first time as an MP, also failed to win the necessary majority. This means that the bill will be temporarily thrown out of parliament and cannot be reintroduced for at least six months. The bill, which seeks to strengthen and entrench the now suspended Kenya Anti- Corruption Authority (KACA) in the constitution, is a prerequisite for the resumption of Kenya’s programme with the IMF and World Bank. All the KANU and NDP rebel MPs joined the opposition to vote against the bill, and it would seem that as long as the controversial amnesty clause remains in the bill the government will have difficulty in winning support for the bill.

The proposed amnesty in the bill is for those who committed economic crimes before December 1st 1997 (barring those already being investigated or prosecuted). This provision is widely perceived by many in parliament as a measure to protect certain corrupt individuals in the government from being prosecuted under the act. While this may be the case, the IMF does not have an opinion on the matter; the Fund has made clear that it considers the issue of an amnesty to be a purely domestic issue although the government should

EIU Country Report August 2001 © The Economist Intelligence Unit Limited 2001 Kenya 15

encourage debate about it. Under the proposed bill, if any case being investigated or under prosecution were abandoned for whatever reason, the new Kenya Anti-Corruption Authority would not be able to reopen it.

Kenya’s corruption rating According to the 2001 corruption perceptions index published by the Berlin- remains high based organisation Transparency International in June, Kenya is still perceived as one of the most corrupt places to do business in the world. In a survey of 91 countries Kenya is ranked 84th. Despite pressure from donors to combat corruption, the situation is not expected to change radically in the short to medium term.

Corruption perceptions index 2000 2001 Scorea Scorea % change Rankingb Botswana 6.0 6.0 0.0 26 Namibia 5.4 5.4 0.0 30 South Africa 5.0 4.8 –4.0 38 Mauritius 4.7 4.5 –4.3 40 Ghana 3.5 3.4 –2.9 59 Malawi 4.1 3.2 –22.0 61 Senegal 3.5 2.9 –17.1 65 Zimbabwe 3.0 2.9 –3.3 65 Zambia 3.4 2.6 –23.5 75 Côte d'Ivoire 2.7 2.4 –11.1 77 Tanzania 2.5 2.2 –12.0 82 Kenya 2.1 2.0 –4.8 84 Cameroon 2.0 2.0 0.0 84 Uganda 2.3 1.9 –17.4 88 Nigeria 1.2 1.0 –16.7 90

a Where 1=most corrupt and 10=most transparent. b In 2001; out of 91 countries. Source: Transparency International.

The merged constitutional In May 2001 parliament passed the bill enabling the merger of the Kenya review process is still fragile Review Commission and the People’s Commission of Kenya (popularly known as Ufungamano). The commission continues to be hampered by controversy and accusations of impropriety. Although the commission still enjoys wide- spread credibility, a feeling persists that it will not be able to carry out its work independently without interference from KANU and the NDP, both of which are perceived as interested parties. Furthermore, the failure (or inability) of the Kenyan government to provide sufficient funds for the Constitution of Kenya Review Commission continues to cast doubts over whether the review process will be completed in time for the next elections in 2002. The chairman of the commission, Professor Yash Pal Ghai, has expressed fears that the limited time available, together with the shortage of funds, may force the Commission to ask for more time beyond the statutory 24 months. In an opportunistic development, an NDP member of parliament, Otieno Kajwang, has introduced a bill into the National Assembly to extend the life of the current parliament for up to five years, under the pretext of allowing time for a comprehensive

review of the constitution. This move has been widely criticised by the opposition and publicly by President Moi and the NDP’s chairman, Raila Odinga. According to Section 26 (2) of the constitution of Kenya Review Act, the commission may request parliament to extend its mandate after 12 months from the time it was legally constituted in October 2000, if it considers that it cannot complete its work within the allotted two years. However, Professor Ghai has expressed confidence that, given a favourable environment and adequate resources, the Commission is capable of producing a new constitution within 15 months. KANU dreads any new constitutional arrangements that might prevent it from controlling the succession to Mr Moi. Despite these difficulties, the actual review has started, and the commissioners are in the process of collecting views from the public in different parts of the country.

Sexual abstinence is not a According to the Daily Nation, as part of its new anti-AIDS strategy, the viable policy government is planning to import 300m condoms to encourage their wider use and to make them more available to vulnerable groups, notably 15- to 25-year- olds. However, the problem of dealing openly and honestly with AIDS was illustrated when President Moi was quoted as saying: “I am shy of spending millions of shillings on these things” and “if Kenyans were to abstain from sex for two years it would save a generation”. While he is no doubt correct, and received strong support for his view from various religious leaders, such wishful thinking will not really address this pressing issue. More importantly, it simply tends to highlight the way that the subject is treated—with embarrassment. Such an environment also makes it harder for both the government and other activists to get the message over, that AIDS is an economic and social issue that the country has to address in a comprehensive and frank way.

The US secretary of state Despite initial concerns that the new US administration, led by George W visits Kenya Bush, did not consider the region of much importance, the new US secretary of state, Colin Powell, has taken an interest in Sub-Saharan Africa. In only his third trip abroad since taking office, Mr Powell made a week-long four-nation tour of Africa (visiting Mali, Kenya, South Africa and Uganda). The visit seems to have been driven by four factors. First, Mr Powell’s own interest in Africa, as the first Afro-American secretary of state. Second, the new administration’s desire to improve its standing among African-American voters, who generally support the opposition Democratic Party. Third, with what seems to be genuine concern about the global impact of the AIDS pandemic, the administration is keen to be seen to be taking a part in fighting the disease in Sub- Saharan Africa. Fourth, wishing to secure backing for its trade policy among Democratic senators, the administration wishes to demonstrate that it will not only benefit the US, but also poor, developing countries. Whether the visit will help achieve these goals is not clear, but it is apparent that the administration has stepped up its efforts to highlight the benefits of the Africa Growth and Opportunity Act (AGOA) for Sub-Saharan African countries (see Foreign trade and payments). Unsurprisingly, General Powell’s visit to Kenya mainly focused on the country’s growing political problems, stressing the need for President Moi to adhere to the provisions of the current constitution (which restricts the president to two terms in office); for the elections to be held on schedule in

EIU Country Report August 2001 © The Economist Intelligence Unit Limited 2001 Kenya 17

December 2002; and for the country to accelerate its efforts to combat corruption.

Kenya bans trade with On July 28th President Moi again announced a trade ban with neighbouring Somalia Somalia, citing security reasons. It is the second time in two years that Mr Moi has taken such a step; and he has indicated that he will consider reopening the border with Somalia once the Transitional National Government has curbed the flow of illegal arms into Kenya. Meanwhile, the ban is expected to result in substantial financial loss for around 500,000 farmers in the Meru area, who cultivate miraa (also known as qat), a mildly narcotic leaf chewed by many Somalis. According to the annual report of World Geopolitics of Drugs, the district has been earning a hefty US$250m a year from the miraa trade. Also affected by the ban are air charter companies, which have been operating 15 flights a day to Somalia. Shortages of miraa in Mogadishu, by far the largest market in Somalia, have more than doubled the price of the commodity, from US$3/kg on July 28th to over US$20/kg by mid-August.

Economic policy

IMF funding now looks Although the IMF and the Kenyan government have clearly agreed what needs unlikely in 2001 to be done before lending can resume, the government is struggling to meet the requirements. Progress is required in three areas.

• The Anti-Corruption and Economic Crimes Bill, revised to meet standards acceptable to the IMF and international community, has to be enacted into law (this will also enshrine the Kenya Anti-corruption Authority in the constitution).

• The Code of Ethics for Public Servants Bill has to be revised along similar lines.

• The privatisation of Telkom Kenya has to move forward.

Although initially there was progress in all three areas, and hence it was hoped that aid to Kenya could be resumed as early as September, hopes have receded dramatically in the last few weeks after the government failed to obtain the necessary 145 votes (a two-thirds majority vote) that it required to pass the Anti-Corruption and Economic Crimes Bill following days of intensive debate in parliament (see The political scene).

In addition to problems with the Anti-Corruption and Economic Crimes Bill, the privatisation of Telkom hit another hitch when the government rejected the offer of the Egyptian telecommunications company, Orascom, for the purchase of a 49% stake in Telkom (see Infrastructure). This has led to the reopening of negotiations with the Mount Kenya Consortium, which has agreed to increase its initial offer of US$305m by another US$10m. The deal is likely to be closed soon, especially since this is one of the fundamental conditions for aid resumption, although negotiations are likely to continue in the coming months. The government had hoped to sell the 49% stake by June this year.

The press calls it a “public The budget for the 2001/02 financial year (July-June) was presented on June relations budget” 14th against the backdrop of a declining economy. In fact, the minister of finance, Chris Okemo, was keen to highlight the difficult economic position— that the economy, as represented by real GDP growth, had deteriorated steadily for the past five years and was estimated actually to have contracted by 0.2% in 2000. This slowdown was attributed not only to the negative impact of the drought and the slowdown in donor inflows, which has led to lower levels of investment in infrastructure and high real interest rates, but also to poor economic policy. He was brave enough to note that “poor management of public expenditure and corruption” was a problem. The press quickly described the budget as a “public relations budget”, since it contained the usual well- rehearsed declarations of intent (such as financial support for a tourism promotion campaign and improved access to credit for small-scale industries), but offered little concrete in terms of clear targets for realising those aims.

However, the budget was still broadly based on the government’s three-year medium-term expenditure framework (MTEF). The MTEF is itself based on the premise that the private sector is more productive than the public, and that the overarching objective is to reduce the government’s claim on national resources and its involvement in the economy. This is to be achieved by reducing the ratio of government revenue and expenditure to 22.1% of GDP by 2003/04, to attain a balanced budget, and to use privatisation receipts to reduce domestic debt to 15% of GDP.

Government expenditure (KSh m) Outcome Budget 2000/01 2001/02 % change % of total Discretionary expenditure 211,179 199,082 –5.73 64.9 Recurrent 153,807 157,445 3.37 51.4 Development 57,372 41,637 –27.43 13.6 Consolidated fund services 116,265 107,461 –7.57 35.1 Public debt 109,937 97,694 –11.14 31.9 Pensions & gratuities 5,902 9,398 59.23 3.1 Salaries & allowances 228 235 3.07 0.1 Subscriptions 199 133 –33.17 0.04 Total expenditure 327,444 306,543 –6.38 100.00 Source: Ministry of Finance.

Despite his stated aim of reducing the fiscal deficit, the minister of finance noted that on a commitments basis the budget moved from a surplus of 0.6% of GDP in 1999/2000 to an estimated deficit of 1.5% of GDP in 2000/01. However, to reverse this trend and bring the government’s finances back on track with the MTEF, total government expenditure is forecast to fall to KSh306.5bn (US$4bn), which is KSh20.9bn, or 6.4% less than total spending approved in the 1999/2000 budget. The reduction in expenditure will be effected in a number of ways.

• Total debt-service payments (interest and principal) are projected to fall by 11.1% compared with last year. However, debt service is still a very large

EIU Country Report August 2001 © The Economist Intelligence Unit Limited 2001 Kenya 19

proportion of total expenditure, just over one-third, and more than double the development budget.

• The minister plans to impose a ceiling on domestic interest payments of KSh26bn, an ambitious target given that just under KSh120bn (US$1.5bn) out of the total domestic debt stock of KSh170bn (US$2.2bn) is in 91-day Treasury bills.

Recurrent expenditure will remain the largest single broad category of expenditure, at over 50% of total expenditure; and it is set to increase marginally by 3.4%, or KSh3.6bn, despite the ongoing programme of civil service redundancies.

Development expenditure, 2001/02 (KSh bn) External sources 26.2 Domestic sources 15.4 Total 41.6 Source: Ministry of Finance.

Donor support is still On the revenue side, the minister of finance’s proposals were much less clear. factored in In fact, perhaps the only real point of clarity was how he proposed to finance development expenditure—from foreign donors. The minister has argued that the total revenue requirement for 2001/02 is KSh218.6bn, compared with a target in the current MTEF of KSh214bn. Therefore, he needs to raise an additional KSh4.6bn. However, because of the various tax concessions that he has promised to introduce, he actually has to raise KSh8.3bn. This will mainly be done through various changes to excise duty and increases in VAT and income tax. The minister also hopes to raise close to KSh30bn (US$3.8m) from privatisation proceeds of Telkom Kenya (a 49% equity stake); Kenya Commercial Bank (the government’s remaining 35%); Kenya Reinsurance Corporation (sale of the government’s shareholding to a strategic investor); and Mumias Sugar (the government’s 50% to be sold via an initial public offering on the Nairobi Stock Exchange).

Even if the government manages to reach its revenue target, this leaves a deficit of KSh88.1bn that needs to be financed.

What the government has done in recent years is to borrow as much as it can (externally and on the domestic markets), and this strategy will be continued in 2001/02. However, the government will, if possible, also try to shift the maturity profile of its domestic debt from its overwhelming dependence on 91- and 182-day T-bills to long-term bonds. This follows the encouraging response to the launch of its five-year bond, which it now hopes to supplement with a three-year bond.

In addition, the government has consistently hoped that donors will meet some of the financing requirement. However, when support has not been forthcoming, planned expenditure has simply not gone ahead. This year it seems to have adopted the same strategy, again assuming a resumption of donor funding by half way through the fiscal year. However, with this

increasingly unlikely to happen until well into 2002 at the earliest, expenditure will be subject to further cuts and projects earmarked for development will be either delayed or simply not begun.

Government revenue (KSh bn) 2000/01 2001/02 Budget Estimates Budget Ordinary 182.3 178.2 194.8 Appropriations in aid 20.9 20.6 23.9 Total 203.3 198.8 218.6 Source: Ministry of finance

The government will retain As well as presenting a reasonably tight fiscal policy in difficult economic a tight monetary policy circumstances, the minister of finance also highlighted that monetary policy had an important role to play in ensuring price stability. The aim for the Central Bank of Kenya is to contain money supply growth to no more than 8% and credit to the private and public sector to no more than 10%. However, the need for the government to maintain such tight monetary policy at a time when the economy is going through a prolonged recession has become a contentious issue in Kenya.

-1

-2

The manufacturing sector Another important feature of the budget was its concentration on promoting gets a boost the manufacturing sector. The long-term growth of industry is also likely to have a positive impact on agriculture and poverty reduction. The industrial sector is set to benefit from a variety of cuts in duty on imported raw materials, notably all primary raw materials, which formerly attracted duty of 2.5% but will now be duty-free to enable local manufacturers to compete with manufacturers of finished goods from the Comesa region. In addition, raw materials and capital goods in the five tariff bands had their duty rate reduced to 3%, and inputs will now be taxed at 5%, down from 15%. The minister also affirmed that this was the first step in removing all duty on raw materials. The domestic textile industry also received a boost: imported fabrics will now attract 35% duty, up from 25-30%; fibre used in textile factories is now zero-

rated; and the duty on yarn has been cut from 25% to 20%. The minister also announced that he would institute a review of the legal and regulatory framework to make it more supportive of the manufacturing sector, but gave no more details. Similarly, he made unspecified promises about improving the Kenyan Bureau of Standards to protect consumers and manufacturers against counterfeit and substandard imports.

The Donde bill is passed by On July 26th parliament approved President Moi’s memorandum suggesting parliament changes to the Central Bank of Kenya Amendment Bill (the Donde bill), which was an attempt by members of parliament, led by Joe Donde, to control interest rates in the country. Although the president initially declined to sign the bill into law, claiming that it conflicted with existing laws, he sent it back to parliament for amendment, which means that he may now approve it. The most important amendment is that the law only applies to contracts for loans or advances agreed or renewed after it becomes law. However, it still retains its key features: that banks will now be required to charge interest on loans at no more than 4% above the prevailing 91-day T-bill rate; and will also be required to pay depositors no less than 70% of the rate available on T-bills.

However, until it is signed into law by the president the Donde bill’s terms have not come into effect, and not surprisingly the banks are busily lobbying the president to delay its coming into effect. They are pushing hard for a delay until January 2002, which will give them time to build up their capital base (many will also announce lower interim dividends to help them achieve this, as Standard Chartered has already done). In general, it is expected that the Donde bill will initially depress financial sector activity by placing a cap on intermediation margins, which in turn will reduce banking industry profits. The combination of higher operating expenses, especially in small banks, and a depressed economy is likely to exacerbate the banking industry’s liquidity problems and non-performing loans, which currently stand at 39.3% of the loan portfolio (48% higher than at the end of 2000).

Its overall impact is far As well as undermining the soundness of the banking industry, it is not clear from clear whether forcing the banks to charge lower interest rates will increase the level of lending or even reduce its overall cost. In fact, as some experts have noted, even though the cost of lending will fall, the supply of lending is also likely to be reduced, since banks will increasingly concentrate on lending only to low- risk clients. Another way banks seek to recoup costs, when governments try to restrict lending rates, is to increase the fees associated with lending. For example, the bank imposes an arrangement fee for the lending, or it requires an assessment of the proposed use of the loan to be carried out by itself, for which it then charges. Similarly for depositors, although the interest rate they obtain on savings goes up, banks impose a fee on withdrawals and other services such as the provision of statements and bank autoteller cards.

The domestic economy

Economic trends

Real GDP falls in 2000 According to the recently released Economic Survey 2001, the Kenyan economy registered a negative growth rate of 0.3% in 2000, agriculture and manufacturing being the most adversely affected parts of the economy. The agricultural sector contracted by 2.4%, while growth in the manufacturing sector contracted by 1.5%. Both were adversely affected by the drought, whose impacted on the manufacturing sector was through the power rationing that was imposed for much of the year.

Gross domestic product (% real change, year on year) 1997 1998 1999 2000 GDP 2.1 1.6 1.3 –0.3 Source: Ministry of Finance.

The economy will grow With the end of both the drought and power rationing, a gradual recovery in gently in 2001 the economy is expected in the second half of 2001, as both the agricultural and manufacturing sectors pick up. Improved agricultural production has linkages to other sectors of the economy. The reduction of electricity tariffs and the tax reforms introduced in the budget in the 2001/02 financial year (July- June) will help to reduce production costs and to some extent increase the competitiveness of the manufacturing sector. The continued recovery of the tourist sector in 2001 will also impact positively on economic growth. However, the recovery will, be significantly slowed by the lack of donor support, which is now not likely to be resumed until the first half of 2002 at the earliest. This means that growth in the government sector will remain stagnant and business confidence in the economy will remain low.

However, despite the slowdown in overall GDP growth, income per head (not GDP per head) recorded a modest rise in 2000, up by 3.2%. This was partly driven by increases in the wages of employees in the private-sector, where total remuneration per employee increased by 12% during the year.

Monetary indicators (% unless otherwise indicated) 2000 2001 Average Jan Feb Mar Apr May Jun 91-day T-bill rate 12.9 14.8 15.3 15.0 12.9 10.5 12.1 Overdraft rate 19.7 20.2 20.5 20.2 19.9 19.5 n/a Money supply M3 (% change) 0.8 0.0 –0.3 n/a n/a n/a n/a Underlying inflation 10.7 10.1 10.5 7.1 7.8 7.3 7.2 Source: Central Bureau of Statistics.

Inflation is falling Inflation has continued its steady downward trend so far in 2001, reaching 7.2% in June. The downward trend has been driven by the drop in the rate of increase of food prices following the end of the drought, and this trend is expected to continue in the second half of 2001. The downward trend in inflation will also be supported by the cautious monetary policy stance adopted by the Central Bank of Kenya (as outlined in the budget) and the fact that the government’s own fiscal position is constrained by the lack of donor support and its own high level of domestic borrowing.

Agriculture

The drought has ended but Although the drought that afflicted the whole of the country during 2000 has food shortages remain abated in the south and some eastern areas of the country, bringing relief to some farmers, according to the Food and Agriculture Organisation and the World Food Programme (WFP) over 3m people will still depend on food aid in the north, central and some eastern parts of the country, which are facing a fourth year of drought. In particular, in some areas 10-20% of the livestock has died. According to the WFP, 120,000 tonnes of emergency food aid will be required at an estimated cost of US$60m.

Quotas may help the sugar With the start of Comesa’s free-trade bloc in 2000, coupled with the effect of industry the drought on their own production, Kenya’s sugar producers have come under intense competitive pressure in the past nine months. At present the country’s sugar production is estimated at 400,000 tonnes compared with demand of 600,000 tonnes, and the government is proposing a series of quotas to allow it to regulate imports and boost the domestic industry. This proposal has been put forward to Comesa on the basis of Article 49 in the free-trade protocol, which allows temporary trade measures to “protect strategic, sensitive or infant industries by imposing quantitative or like restrictions or prohibitions on similar goods originating from other member States”. The proposed quotas would be in place for just one year, and the Kenyan government expects a response from Comesa by the end of August.

Proposed sugar import quotas (‘000 tonnes) Sudan 43.0 Malawi 42.5 Zimbabwe 40.0 Egypt 35.0 Zambia 18.5 Others 21.0 Demand for imports 200.0 Source: Reuters

Meanwhile, on August 3rd the government published a bill, for setting up the Kenya Sugar Board. It will have the job of regulating the sugar trade (through the Sugar Arbitration Tribunal) and promoting the overall development of the sugar industry to ensure its long-term competitiveness.

Tea production (m kg) 1 Qtr 2 Qtr 3 Qtr 4 Qtr Total 1999 50.3 67.8 55.4 75.4 248.8 2000 53.9 54.8 51.6 76.0 236.3 2001 83.0 71.9 ––– Source: Tea Board of Kenya.

Tea production rises According to the Tea Board of Kenya (TBK), the country’s tea production rose sharply sharply in the first half of 2001, to 154.9m kg in the January-June 2001 period, compared with 108.7m kg in January-June 2000. According to the TBK, the increase was the result of both good rains in the first half of the year and improved application of inputs. However, the increase in production has pushed tea prices down on the tea trading floors, although the TBK was confident that prices would pick up marginally as production was held back in the second half of the year by drier weather conditions. Production is also higher than in 1999, and if current trends are maintained it may even come close to reaching the 294.2m kg recorded in 1998.

Horticulture exports Despite the 2000 drought, Kenya’s horticultural exports have held up well. According to Mark Okado, head of the Horticultural Crops Development Authority, horticulture was the fastest growing agricultural sub-sector in 2000 and exported 100,000 tonnes of fresh horticultural products. The leading markets were the UK (34%), the Netherlands (31%) and France (15%). Mr Okado currently predicts that in 2001 exports of horticultural products will reach 140,000 tonnes, led by the growth of cut flower exports. But Kenya will be competing in a crowded market: African flower exports have increased rapidly in recent years according to UNCTAD; they went up from 97.3m tonnes in 1997 to 101.3m tonnes in 1999, the latest year for which aggregate data are available. However, the current problems in Zimbabwe, have disrupted their supply in recent months, which provides a market gap that Kenyan growers can exploit. Nevertheless, as well as the normal constraints facing the sector—notably poor infrastructure and expensive electricity—producers will also have to cope with the problem of meeting new EU requirements on pesticides, which came into operation in July 2001 and will force producers to use new pesticides and to lower residue levels in export crops.

Tourism

Tourism edges up Tourism has continued to register marginal gains over the last two years. During 2000 the sector is estimated to have grown by 6.9%, compared with 8.4% in 1999; bed occupancy rose by 25% in 2000, mainly owing to concerted efforts by the Ministry of Trade, Tourism and Industry and various industry stakeholders to promote the sector in Europe. However, this recovery is still considered marginal, compared to its peak in 1993 and 1994, when tourism accounted for 33-34% of Kenya’s export receipts, compared with its current contribution of 17.5%. Against a background of tribal clashes, negative publicity, crumbling infrastructure, inadequate marketing and increased

competition offered by destinations such as Tanzania, Mauritius, and South Africa, the sector registered an unprecedented decline between 1995 and 1998. During this period annual tourist arrivals declined by 1.5% and receipts fell by 19.5%. Currently, tourism is Kenya’s third largest foreign-exchange earner after tea and horticulture.

Tourism statistics (‘000 unless otherwise indicated) 1995 1998 1999 2000 Visitor arrivals 973.6 894.3 969.3 1,036.2 Holiday 795.7 686.9 746.9 n/a Transit 55.8 101.9 107.4 n/a Average length of stay (days) 15.2 9.6 9.4 8.7 Hotel bed-occupancy rate (%) 43.1 35.1 33.9 25.0 Conference tourism occupancy rate (%) 32.6 7.1 10.7 n/a Source: Ministry of Planning and National Development, Economic Survey ; Central Bureau of Statistics, Annual Statistical Abstract.

Energy

Japan threatens to pull out The indecisiveness of the Kenya government in tackling corruption, coupled of the Sondu Miriu Project with the negative publicity the project has attracted in Japan, is threatening to delay the Sondu Miriu project in Nyando district of Nyanza province. The hydroelectric power project, which is being funded by the Japanese government, was expected to generate 60 mw for the national grid when completed in 2003. The Japanese ambassador to Kenya, Morihisa Aoki, announced in June that the KSh5.8bn (US$76m) funding needed for the project’s second and final phase was at risk of being withdrawn because of a sustained campaign against the project by certain politicians and non- governmental organisations in Kenya. The project received full financial support, KSh3.5bn, from the Japanese government for its first phase. The Sondu Miriu project has caused controversy over land compensation and environmental pollution. Environmental experts have, however, warned that there could be an ecological disaster if the project is abandoned at this stage, since dams and tunnels that had already been dug will pose a danger to local residents. Should the project be stopped it is likely that another season of power rationing may start, with all its potential negative impact on economic growth.

Infrastructure

Protracted negotiations on In mid-July the Kenya government rejected the offer by the Egyptian company, Telkom Kenya continue Orascom, to purchase a 49% shareholding in Telkom Kenya. Orascom Telecom Holdings has cellphone interests in 19 African and Middle Eastern countries. The deal reportedly fell through after Orascom was unable to raise a bank guarantee to cover its bid (US$350m). The failure of the Orascom bid now means that Mount Kenya Consortium is likely to acquire the stake, after it increased its initial bid of US$305m by US$10m. Telkom Kenya has a five-year

monopoly on fixed-line telephone services in Nairobi and owns a 60% stake of the cellphone operator Safaricom.

If accepted by the government, the new bid by Mount Kenya Consortium will be 10% less than the KSh27.3bn that the Treasury had hoped to raise in the sale of the parastatal. The investment bankers, Rothschild, had valued Telkom Kenya at US$800m two years ago, when international investors still had considerable enthusiasm for technology and telecoms, whereas the proposed new bid now values Telkom Kenya at US$630m. The additional US$10m demanded by the government seems reasonable given the growth of Safaricom’s cellular subscriber base in the last year and the strides made by the firm in capturing the short text messaging market.

Foreign trade and payments

Tourist numbers are up, According to the government’s Economic Survey, the number of tourist arrivals but earnings are down continued to grow in 2000, compared with 1999. However, while the number of visitor arrivals increased by 8.4% in 1999, the rate of increase was only 6.9% in 2000. More worrying for the government was that despite the increase in numbers, during 2000 tourists spent less time in Kenya—the average length of stay fell from 9.4 days in 1999 to only 8.7 days in 2000. This contributed to a fall in total tourism receipts from KSh21.37bn (US$305m) in 1999 to only KSh19.59bn in 2000. As Tanzania is increasingly marketing itself as a tourism destination and privatising many of its facilities, it will be hard for the Kenyan government to reverse this decline, since many tourists likely to spend part of their holiday in Kenya and part in Tanzania especially in the parks around Mount Kilimanjaro and the Ngoro Ngoro crater which are close to the Kenyan border.

The impact of the Africa Growth and Opportunity Act (AGOA)

The AGOA offers an important export opportunity for many African countries. However, overoptimistic assessments of its impact so far must be treated with caution. While Robert Zoellick claimed in the Wall Street Journal that exports from countries that had qualified for AGOA were up by 24% year on year in the first quarter of 2001, it must be noted that exports from Sub-Saharan Africa to the US have in fact been growing steadily since the final quarter of 1998. (A significant proportion of this is due to the increase in value of US oil imports from Nigeria, as world oil prices have recovered.) The AGOA legislation is complex, and although certain countries have now qualified, there are only a few examples of companies taking advantage of this. This will change over time. However, the possibility that the impact of the AGOA is being exagger- ated, in order to reflect well on US domestic policy goals, should be noted.

AGOA could be of great About a year since the former US president, Bill Clinton, signed the African benefit to Kenya Growth and Opportunity Act (AGOA) into law, trade relations between the US and Kenya are showing signs of improving. AGOA has been particularly beneficial for the textile industry in Kenya, which now enjoys duty-free access to the US market under the new trade arrangement. As a result of the

legislation, 16 garment factories in Kenya have re-opened or started up in the last year, and, according to the trade and industry minister, Nicolas Biwott, textile exports to the US in the first seven months of 2001 were worth US$47.2m compared with US$27m in the same period the year before.

However, Kenya’s access to the US market under AGOA is conditional on the implementation of reforms demanded by the IMF and World Bank, especially in dealing with corruption, where progress is now in danger of grinding to a halt. Another major problem facing textile exporters identified in a study carried out by the Institute of Economic Affairs, is to increase the efficiency of production if they are to reap the benefits of AGOA. The report argues that for Kenya to attain efficiency in production, heavy investment will need to be made to automate the production process. Mass production technologies which are capital intensive are more efficient in an environment where large orders have to be fulfilled fast and on time. These technologies eventually lead to a lowering of production costs and eventually create more employment as the volume of exports expands.

The African Union replaces the Organisation of African Unity

The 37th annual assembly of heads of state and government of the Organisation of African Unity (OAU) was held in the Zambian capital, Lusaka, on July 2nd-11th 2001. The Zambian president, Frederick Chiluba, took over the chairmanship of the organisation from President Gnassingbé Eyadéma of Togo. The assembly formally implemented the Constitutive Act of the African Union (AU), following Nigeria’s ratification of the Act on April 26th, allowing the Act to enter into force 30 days after the deposit of the instruments of ratification. The formation of the AU had been agreed at the 36th annual assembly of the OAU, held in Togo in July 2000, and the AU was to replace the OAU following ratification of the Act by the parliaments of two-thirds of the member states.

The OAU’s secretary-general, Salim Ahmed Salim, has said that there will be a transitional period of around one year to allow the AU to become fully operational. Amara Essy, Côte d’Ivoire’s foreign minister for most of the 1990s, will replace Mr Salim in September, having been elected interim secretary- general, but he is mandated to serve only until May 2002. The AU is expected to have an executive Council of Ministers and an assembly comprising the heads of member states, and it is to remain headquartered in Addis Ababa, the Ethiopian capital. The creation of the AU will lead eventually to the formation of:

• a pan-African parliament;

• a Union Court of Justice:

• an African central bank;

• an African monetary fund; and

• an African investment bank.

In addition to closer economic ties, common defence, foreign and communications policies will also be established, based loosely on those of the

EU. However, the AU’s founding statements stopped short of ending the OAU principle of non-interference, which has been a major hindrance in the resolution of conflicts on the continent. Like some members of the EU, some African states are wary of losing their sovereignty to a super-state.

The OAU was criticised as being ineffectual—little real action resulted from its policy decisions—and for years it was hampered by severe budgetary difficulties. These problems are likely to continue under the AU, and (change of name notwithstanding) it is unclear how the AU’s institutions will be any more effective than those of the OAU.

Kenya increases fish As occurred in Uganda and Tanzania, exports of Kenyan fish products to the exports to the EU EU have increased significantly since the lifting of the ban on local fish by the EU. East African fish exports to the European Union were banned in 1998 following concerns over poor sanitary standards and the use of chemicals in fishing on Lake Victoria. According to the Kenya Fish Processors’ and Exporters’ Association, fish export to the EU have picked up by about 70% since the beginning of the year. The Association expects to regain the full share of the export market it enjoyed before the ban was imposed. The processors currently export about 1,200 tonnes of fillets per month to the overseas market. The EU market accounts for 50% of Kenya’s fish exports, and the ban had a devastating effect on the country’s US$76.4m fishing industry. The ban, however, forced Kenyan fish traders to seek alternative markets in Australia, Japan, the Middle East and other parts of the world, which may bring long- term benefits by diversifying the market for Kenya’s fish.