Government's huge borrowing appetite deprives Kenyans of cash

The government’s domestic debt currently stands at Sh1.9 trillion, an all-time high that represents 50.8 per cent of the country’s total public debt of Sh3.6 trillion.

In the past five years, the domestic debt load has grown by Sh1.1 trillion, having stood at Sh802.5 billion in December 2011.

To finance the large budget deficit in the current fiscal year, the government plans to borrow an additional Sh294.6 billion from the domestic market, higher than the Sh287.6 billion it plans to take up from external lenders.

Essentially, the stock of domestic debt is likely to hit the Sh2 trillion mark before the end of the fiscal year, given that by mid-December, the government had made Sh155 billion in new borrowing from the domestic market.

In the 2015/2016 fiscal year, the government raised Sh349.6 billion in new borrowing from the domestic market, which was way past its target of Sh191 billion.

The State’s appetite for domestic borrowing has made fixed income the investment of choice for many investors in the country, attracted by the relatively high interest rates on offer as well as the risk free status of government debt.

INVESTING IN SHARES

It is a no-brainer, therefore for an investor, to put money into a government bond at the rate of about 12.5 per cent, compared to investing in shares at the stock market — whose risk is also inherently higher — where the return this year is at a negative 23 per cent.

The secondary bonds market, of which 98 per cent is government securities, has as a result seen its volume of traded capital grow at the expense of the equities market this year.

Equity turnover at the Nairobi Securities Exchange this year is set to come in below the 2015 total, standing at Sh145 billion with just two trading weeks left in the year. Last year, the market traded Sh209.4 billion.

At the same time, the turnover in the secondary bonds market has gone up significantly, hitting Sh411.3 billion since the beginning of the year. Last year this segment traded Sh305.1 billion.

LOAN PRICING REGIME

Banks have been at the forefront of lending to the government this year, with their holdings of government debt currently standing at Sh998 billion, representing 52.3 per cent of the total debt.

The enactment of the law capping customer loan interest rates at 400 basis points above the prevailing Central Bank Rate (CBR) has seen banks increase their lending to government, given that they are now unable to price in risk on customer loans.

Faced with the option of lending to government at 12 per cent or to a customer at 14 per cent, a bank would always go for the State debt, which is risk free and easier to administer.

In pricing their customer loans, therefore, banks have to keep an eye on the rate the government is paying for money.

Under the Kenya Banks Reference Rate (KBRR) loan pricing regime, the base cost of customer loans was computed from a moving average of the 91-day Treasury Bill and the CBR, meaning that it would largely go up or down with the cost of government debt.

The rising preference by banks to lend to government is a risk to the economy’s growth, given that it would starve the private sector of much needed credit to power their economic activities. The annualised growth of credit to the private sector has dropped significantly this year, falling from 17 per cent in January to 4.5 per cent in October.

Even though KBRR is now not in use given the new rate caps, banks’ lending trends will still be influenced by the rates on offer on government paper.

Contributors: Brian Ngugi, David Ndii, David Herbling, Charles Mwaniki