S&P Downgrades Kenya over Weaker Fiscal, Debt Trajectory
S&P Global Ratings has lowered its long-term sovereign credit rating on Kenya to ‘B-‘ from ‘B’ with outlook accorded as stable. At the same time, the global rating agency said it affirmed ‘B’ short-term sovereign credit rating on Kenya.
The rating note stated that the outlook is stable because S&P expects strong that Kenya economic growth and continued access to concessional external financing will balance pressures from high interest costs, slower fiscal consolidation, and structural external imbalances.
The downgrade reflects S&P view that Kenya’s medium-term fiscal and debt outlook will deteriorate following the government’s decision to rescind all tax measures proposed under the 2024/2025 Finance Bill – for the fiscal year ending June 30, 2025; FY 2025.
The repeal of the bill follows nationwide protests contesting tax hikes on bread, cooking oil, and car ownership, among other items, amid a cost-of-living crisis.
Although the government subsequently issued a supplementary budget focused on expenditure cuts, it forecasts the overall budget deficit to widen to 4.3% of GDP in FY 2025, compared to 3.3% under the original budget. This will raise Kenya’s net borrowing requirement and place interest to government revenue on an increasing path.
Notwithstanding fiscal slippage, we assume in our base case that Kenya will maintain reasonably strong access to concessional external financing.
The IMF is likely to disburse funds under Kenya’s seventh review, with a delay, around September 2024, originally delayed from June 2024 due to budget amendments.
However, the timing will hinge partly on the outcome of a court ruling determining the constitutionality of tax measures implemented under the 2023/2024 Finance Bill.
Given successful refinancing of the Eurobond that matured in June 2024, the authorities are unlikely to tap the exceptional access window available from the IMF.
This implies the disbursement size under the seventh review will likely stand at about $600 million (down from the originally expected amount of $1 billion), with the exceptional access likely to be used under future reviews. The authorities have also expressed their intention of signing up for a new IMF program after the current one expires in March 2025.
Although immediate external liquidity pressures have receded slightly, Kenya’s structurally large external imbalances remain a key vulnerability.
“We project the government’s external debt amortizations at about $2.0 billion annually over FY 2025-FY 2027, including $300 million in Eurobond repayments in May each year”.
Potential foreign financing options for FY 2025 include sustainability-linked bonds, Samurai, Sukuk, and Panda bond issuances, alongside expected disbursements from the IMF and World Bank.
The government may also choose to buy back portions of its 2028 or 2031 Eurobonds using proceeds from a climate-linked issuance.
“Our ratings on Kenya remain constrained by the country’s relatively low GDP per capita (although still among the highest in the East African region), high fiscal deficits and government debt, and sizable external financing requirements”.
The ratings are supported by Kenya’s record of strong GDP growth, vibrant private sector, and diversified economy, including its large and diverse agricultural and services sectors relative to peers’.
Kenya also benefits from flexible monetary settings, relatively deep domestic capital markets, as well as a developed institutional framework relative to that of other sovereigns rated in the ‘B’ category.
“We could lower the ratings if Kenya’s external or domestic refinancing pressures mount, likely due to a sustained decline in foreign exchange reserves or domestic liquidity; or if we perceive any future debt-repurchase operations, domestic or external, to be akin to a distressed exchange.
“We could also lower the ratings if we see limited progress on fiscal consolidation, further raising the government’s already-high interest costs|”, S&P said in the rating note
Since taking office in September 2022, President Ruto has pledged to reduce bureaucracy and move from a top-down to a bottom-up system to provide more opportunities for the large informal and small-business sectors.
To this end, the ruling coalition launched a targeted loan scheme, dubbed the “Hustler Fund,” to limit expensive and predatory lending to small and midsize enterprises (SMEs) and extend microfinance to small businesses and individuals. In addition, it is focusing on spurring investment in five key sectors–agriculture, SMEs, housing, health care, and the creative economy–while aiming to consolidate the country’s fiscal position and put debt on a more sustainable path.
In response to anti-government protests in June 2024, President Ruto declined to sign the 2024/2025 Finance Bill and dismissed all but one of his cabinet secretaries.
The new cabinet appointments feature some members of the opposition, including former chair of the Orange Democratic Party, John Mbadi, as Cabinet Secretary in the Treasury (equivalent to a Finance Minister), but the majority were reappointed from the previous cabinet.
“In our view, the formation of a more broad-based government could marginally ease political tensions but presents likely coordination challenges over future policy reforms”.
Despite low wealth on a GDP per capita basis, Kenya’s economic growth has outpaced peers’ because of its relatively dynamic services-led private sector.
Kenya’s real GDP expanded by 5.0% in the first quarter of 2024, surpassing its five-year historical average of 4.6%, supported by continued resilience of the agricultural sector (which represents 20% of GDP).
In addition, the tourism industry (10% of GDP) remained buoyant and enabled accommodation and food services to expand. We project GDP growth will average 5.5% over 2024-2027, although risks remain, such as unfavorable weather conditions, including the flooding disruptions during April-May 2024 and the potential effects of La Niña. #S&P Downgrades Kenya over Weaker Fiscal, Debt Trajectory
