28/05/2015 This content is not up to date

Prospects of IMF debtor countries: case of Kenya

International Monetary Fund (IMF) is an institution that has been, for the last 70 years, preoccupied with maintaining economic and financial stability in the world. When a country faces a balance of payments crisis, is unable to pay for its liabilities and private financing is either too expensive or not available at all, it can apply for an IMF loan.

There are several different types of assistance programmes, depending on whether the country has solid institutional structure or on its economic position in the world. Some are accompanied with very complex conditionality, other acknowledge that country’s policies are well designed and do not need major reforms. Poor states can benefit from zero-interest borrowing.

Originally founded on the belief that markets were imperfect and that the role of governments is to boost economic growth with its expansionary policies, the IMF has over the time turned to almost opposite vision of what is the right approach to economic issues. Nowadays, the Fund favors countries that adopt austerity measures, such as running low deficits or increasing taxes. In reaction to IMF’s current activities, Joseph Stiglitz, former chief economist of The World Bank, noted that “Keynes would be rolling over in his grave were he to see what has happened to his child”.

One of the many problems with the IMF conditionality is a low compliance. The macroeconomic goals that the Fund sets out for the countries are not always met, in fact, several studies suggested that compliance with structural benchmarks is often lower than 50%. For these and other reasons, many academics and policy-makers suggested that conditionality should be completely abandoned and the aid should be provided with no strings attached.

Oxfam’s advice to the Bretton-Woods institutions and other donors was that “aid must be conditional on being spent transparently and on reducing poverty, and nothing more”. However, whether countries decide to follow IMF’s advice or not, the growth rates seem not to react to the assistance programs.

It is not so surprising that the Fund is not always able to respond to country’s needs, as it usually, according to Stiglitz, does not have its staff present in the country it tries to help. There is only one resident representative and when a program is being designed, IMF sends temporary missions who stay in expensive hotels in the capital city.

This is only a symbolic gesture of the “colonial mentality”, which has survived despite African countries gaining their independence. The imaginary burden resting upon shoulders of white men still keeps alive the idea that the IMF knows better than crisis-stricken countries what is good for them. Moreover, this structure of developing vs. developed (or creditor vs. debtor) countries is enhanced by the decision-making process within the Fund itself, as the countries who use it the most have usually the lowest power to influence the outcomes.

A recent case of crisis in Greece is an example of IMF mishandling the situation.

Austerity measures imposed on the country had a harsh impact on Greek people, some of whom still today have not got their jobs back. Despite the tendency to blame the Fund for program-participating countries’ failure, it is necessary to mention that in this particular case, the recovery was especially challenging due to unexpectedly adverse conditions in the world economy, inconsistency of stances in Eurozone or insufficient implementation of reforms by Greek authorities. Or just because it was already too late. On the other hand, the IMF probably should have known it would not be that easy.

Another example of how neoliberal practices sometimes do more harm than good is the case of Mali. In this poor country, privatization of a local electricity provider, requested by the IMF and the WB, had detrimental repercussions concerning price and consequently, affordability of the electricity. Furthermore, the privatized company failed to expand to provide services to other areas and two years after the privatization the coverage was only 13%.

IMF in Africa

Currently, the IMF lends to 15 African countries, although not to all at the same terms. Morocco is the only country that can benefit from a program with only mild form of conditionality – so called Precautionary and Liquidity Line (PPL), which is intended only for countries with functioning institutions and sound policies. Most of the countries use Extended Credit Facility, an instrument for combating long-term balance of payments problems.

IMF was designed to help countries with temporary problems associated with crises, but some developing countries needed to ask for funding repeatedly, unable to strengthen their economies to the level where they would be independent from external help. This may lead to the situation when a country is stuck in a vicious cycle – asking for funds when situation is severe, but on the other hand, the costs of implementing reforms are high. The result of these precarious circumstances is that the country is unable to fulfill IMF’s conditions and help is suspended. In addition, seeing that there is no support from the IMF, other donors usually withdraw their funds too.

Indeed, the theory about recidivism proves to be the case also in Kenya. Most of the time between the year 1975 and 2014, the country was under some form of IMF assistance. Up to the nineties, Kenya used in mostly IMF’s Stand-By Arrangement (SBA), associated with non-concessional, but still low interest rates. Then, it was mostly Extended Credit Facility which provided necessary financial means.

Not a long time ago, IMF agreed to provide another loan consisting of blend worth $504.3 million under Stand-By Arrangement and a $194 million arrangement under the Stand-By Credit Facility. Nonetheless, it is considered only as a precautionary measure and the government plans to use it only if facing balance of payments pressures caused by external shocks. These might play a crucial role in determining Kenya’s economic wellbeing, despite the fact that all macroeconomic indicators have been positive and stable recently.

Having seen the prolific employment of external financing in Kenya, we arrive at question: do IMF loans help at all? Research on economic growth came up with conclusion that it is not macroeconomic policies that determine the economic outcomes, but rather institutional setup that country inherited. Distortionary macroeconomic policies can therefore be seen as symptoms, not the cause of crisis.

In addition, a study by Mukherjee suggested that the effectiveness of IMF loans in promoting economic growth in developing countries is dependent on political regime. That is, democracies benefit from foreign aid more than autocracies. In autocratic regimes, the money usually flows to the wrong hands and this only exacerbates the whole situation. However, looking at Kenya leaves us unable to predict the impact of loan with respect to regime. The Democracy Index compiled by the Economist Intelligence Unit puts this country somewhere near the middle – scoring 5.13 out of 10 (10 for perfect democracy), and labelling it a “hybrid regime”.

In its report, the Fund acknowledges that Kenya has made a substantial progress due to the reforms of its institutions. As for the main economic indicators, there was a major drop in GDP growth after the Kenyan Crisis in 2007, amplified by the global economic crisis. Although the growth slightly slowed down after 2010, it was still around 5% in 2014.

Also GDP per capita has been increasing steadily. Inflation was rather volatile in past, but since mid-2012, it has stayed within the target range from 2 to 8%. Public debt remains high but still sustainable. Despite the adverse conditions in the global economy, Kenya also managed to increase the amount of its reserves, which can later be used in case of emergency. Human Development Index, an alternative measure of socioeconomic conditions, has been improving, too. All these advancements were accompanied, and probably partially caused by increasing official development assistance (ODA) per capita.

Question remains, to what extent Kenya owes its relative economic success to IMF and its programs. We have seen that academics view loans associated with structural adjustments as missing their targets or even in some cases exacerbating the already severe conditions. On the other hand, only few countries really adopt the whole package of reforms and it might not be completely adequate to assess the performance of Fund when its advice is not adopted. Similarly, we do not regard antibiotics as inefficient when patient manages to take only half of the prescribed dose and still feels ill.

What challenges Kenya faces?

Agriculture accounts for around 30% of GDP, which makes Kenya vulnerable to shocks in weather conditions but also to changes in climate in the long-term. Another threat to prosperity is political instability and violence, and the risk of terrorism. Revenues from tourism are strongly negatively correlated with these phenomena.

To attract foreign investors, country must provide an environment in which they would thrive. In this aspect, Kenya’s situation has been worsening in comparison to other countries, according to the World Bank’s Doing Business rank. Although it was on 71st place in 2006, its position dropped to 136th place in 2014. Unfavourable conditions in Kenya are also confirmed by Coface, which rated its business climate by C grade (on the scale A1-A4, B, C, D, where D is the worst) and the overall country risk was assessed by B. In contrast with this evaluation, the IMF report says that Kenya has improved its market-friendly environment and thus continued to attract the interest of foreign investors. Indeed, the inflow of FDI has more than doubled between 2010 and 2013.

Another useful indicator of quality of country’s institutions is WB’s World Governance Indicators. According to these ratings, Kenya is well behind other Sub-Saharan countries in two categories – Control of Corruption and Political Stability. Both are essential to economic progress. In conflict-torn countries people worry more about their lives than about their work and foreign investors avoid such territories because their capital would probably be destroyed and their effort would come to naught.

This exactly happened in Kenyan crisis in 2007/2008, when foreign direct investment inflows fell from roughly $730 million to $95 million. This violent dispute was triggered by presidential elections whose fairness was questionable and the result of which provoked ethnic groups to riot. More than 1000 people lost their lives and some 500 000 were displaced in this conflict. In 2010, Kenya adopted a new constitution which should prevent similar crisis.

Future prospects

Kenya’s government intends to improve infrastructure, which will decrease costs of transportation and boost the economy. There are plans for new oil pipelines and irrigation projects that should decrease vulnerability to unexpected weather changes. Moreover, new sources of oil and gas were discovered, and these are expected to contribute to balancing Kenya’s current account deficit in the near future. As for politics, new constitution promoted higher devolution of power with intention to decrease ethnic tensions. It is very probable that slow recovery from global economic crisis of advanced and emerging markets will have negative impact on Kenya, whose progress will therefore also be slower.

IMF identified these major risk areas – political issues connected to devolution, domestic security, weather-related shocks and downturn in the global economy. Their advice is to grow reserves and maintain exchange rate flexibility. Coface reminded that Kenya will continue to be subject to a threat of terrorist attacks due to continued presence of its troops in Somalia. Especially worrying is the menace of youth radicalization caused by spill-over of Islamist radicalism from Somalia.

To conclude, it seems that Kenya might be on its way to breaking the vicious cycle of repeated demands for foreign aid. The economic growth continues, the inflation is stabilizing, public debt is still manageable and the reserves are expanding. Due to its strategic location, important role in the East African Community (which in 2010 established common market and is now planning a monetary union), increasing activity in telecommunications and financial sector and positive demographic outlook is Kenya’s success very probable.

However, there are possible obstacles that might impede the smooth transition from developing to developed country. As argued above, the economic stability and sustainable growth without repeated crises will only be possible if Kenya manages to amend its institutional shortcomings.


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