Kenya may need pre-emptive debt restructuring to avoid default, economists say

By David Whitehouse
Posted on Monday, 17 October 2022 06:00

Kenya's President William Ruto in Nairobi, Kenya, 30 June 2022. REUTERS/Monicah Mwangi

Kenya may benefit from taking the initiative to restructure its debts rather than allowing the risks of default to increase, economists say.

A $2bn eurobond maturity in 2024 poses a significant risk both for Kenyan government finances and the external financing requirements, according to  research from Irmgard Erasmus, senior financial economist at Oxford Economics in Cape Town.

The country’s “constrained access” to capital markets, and inability to diversify to alternative financing sources, may challenge successful eurobond rollover, with a visible trade deficit forecast at 11% of GDP from 2022 to 2024 further clouding the outlook, Erasmus writes. “Kenya is likely to face challenges with the 2024 maturity.”

The case of Ghana, where a debt restructuring is “a matter of when, not if” is likely to trigger more pressure on other countries such as Kenya for restructuring, says Churchill Ogutu, an economist at IC Group in Nairobi. Foreign-exchange buffers of $7bn mean that Kenya is not yet approaching a Zambian-style default, Ogutu says. But plans by new president William Ruto to cut KSh300bn ($2.5bn) from an overall spending bill of about $40bn are not realistic, he says.

The limitations on the new government’s real abilities to cut public spending are likely to be clear by the early months of next year, Ogutu says. By then Ghana is likely to provide a “template” for restructuring, and it’s likely that Kenya will start discussions with domestic and international creditors, he adds.

  • Government revenue growth has failed to keep pace with debt since 2013, and the increases in revenue that were achieved came via tax increases rather than economic growth, says Reginald Kadzutu, CEO at Amana Capital in Nairobi.
  • “When you have unproductive debt on your books which is being paid for by additional borrowing, the reality is you restructure to enable you to have the fiscal headroom to allocate capital to more productive areas,” Kadzutu says.
  • “It is a painful process but it is the foundation for the future survival of the country.”

Careless talk

Not everyone agrees that Kenya is boxed in at this point. Pre-emptive defaults make sense for some countries which are clearly at risk of a debt crisis, says Gregory Smith, author of Where Credit is Due: How Africa’s Debt Can Be a Benefit, Not a Burden published in 2021.

A pre-emptive default is best attempted as a negotiation of options with creditors, rather than a sudden request to accept new debt terms, Smith says. If conversations with creditors are carried out badly, it can tip a country into a deeper crisis, he adds.

Smith says that four factors determine the case for a pre-emptive default. First, the country’s bonds have to be trading at low prices. Second, the government has to be able to identify, contact and communicate with the majority of the bondholders. Third, there has to be a sense of fairness based on other creditors agreeing to similar new terms. Finally, the debt must be unsustainable over the medium term.

  • Ghana appears a good candidate for pre-emptive restructuring on those criteria, but countries such as Kenya, where debt burdens are “large but not clearly unsustainable” may benefit less, Smith says.
  • Kenyan interest payments account for 29% of government revenue, according to Moody’s.  That’s the fourth-highest level in Africa behind Ghana on 58%, Egypt and Nigeria.

In general, debt-distressed countries are better off seeking pre-emptive debt restructurings rather than running down their remaining funds, says Mark Bohlund, senior credit research analyst at REDD Intelligence in London. It often doesn’t happen due to political reasons, he says. Quite a few countries are likely to seek to extend maturities of domestic debt and/or borrow from China, he says. “Trying to kick the can done the road is likely to remain the most common response.”

  • Kadzutu argues that Kenya “can’t grow out of the current mess” as there is no fiscal headroom to do so. Throwing money at the economy would just cause inflation and cripple disposable income, savings and sources of capital, he says.
  • The only options are outright default or default by restructuring, Kadzutu argues. Right now there is “no other alternative.”

Bottom line

Debt restructuring would be politically painful for Kenya, but default would be far worse.

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