54905 TABLE OF CONTENTS FOREWORD i ABBREVIATIONS AND ACRONYMS ii OVERVIEW iii The State of Kenya's Economy 1 1. Growth in 2009 1 2. Weathering the Storm - Kenya One Year After the Global Financial Crisis 4 2.1 Transmission Mechanisms and Response 4 2.2 The Financial Sector and Monetary Policy 4 2.3 The External Sector 7 2.4 Fiscal Position and Response 8 3. Entering a New Decade: Kenya's Growth Outlook for 2010 9 Special Focus - Kenya And The Food Crisis 11 1. Understanding the Effects of The 2008 and 2009 Crises 11 2. Policy Response Options 13 3. Food Prices and Food Production 13 ANNEXES Annex 1: The Reform of Maize Marketing in Kenya 18 Annex 2: Key Assumptions of the Growth Forecast 20 Annex 3: Economic Indicators 21 LIST OF FIGURES Figure 1: A slow recovery in 2009, growth at 2.5% 1 Figure 2: 2009 growth: services perform strongly but agriculture contracts again 2 Figure 3: Construction, tourism, transport and communication drove growth in 2009 2 Figure 4: Rapid increase in internet and telephone connectivity since 2008 3 Figure 5: In 2009, credit growth to real sector increased - but credit to households declined 5 Figure 6: Kenya's stock market performance follows global trends 6 Figure 7: The CBR rate has been reduced by 175 basis points to inject liquidity in the market 6 Figure 8: Inflation under the new and old methodologies 7 Figure 9: Kenya's Balance of Payments: services and capital flows balance a widening trade deficit 7 Figure 10: Decline and recovery of foreign exchange reserves and import cover 7 Figure 11: Since 2007, imports have been rising faster than exports 8 Figure 12: Fiscal deficits remain manageable despite the 2009 stimulus 8 Figure 13: The restructuring of Kenya's domestic debt 8 Figure 14: Development budget implementation is only 65 percent but has improved 9 Figure 15: Kenya's growth performance in a regional perspective 10 Figure 16: 2010 growth scenarios 10 Figure 17: Kenya's maize prices increased while global prices declined 14 Figure 18: Kenya's maize prices are also higher than its neighbors but the gap closed since mid 2009 14 LIST OF BOXES Box 1: Kenya's Tourism: Short Term recovery but looming challenges 3 Box 2: Policy Options for Kenya: six actions to solve the food crisis 16 LIST OF TABLES Table 1: Kenya's Weathering the Global Crisis: Transmission Mechanism and Response 4 Table 2: Impact of the 2008 and 2009 Food Crises on different target groups 12 Table 3: Two percent of maize sellers control 50 percent of the market 15 FOREWORD With this Kenya Economic Update, the World partial strengths) of the current growth momen- Bank is launching a program of short, crisp and tum as well as Kenya's resilience, particularly more frequent country economic reports, which with respect to the global financial crisis. have become a trademark of the World Bank's analytical presence in other countries. These The Kenya Economic Updates are produced by Economic Updates will analyze the trends and the Poverty Reduction and Economic Manage- constraints in Kenya's economic development. ment Unit of the World Bank Country Office in Each issue, produced bi-annually, will provide an Kenya. It has been prepared by a team led by update of recent economic developments as well Wolfgang Fengler and Jane Kiringai, and including as a special focus on a selected topical issue. Christine Cornelius, Gabriel Demombynes, Cath- erine Gachukia, Millicent Gitau, Andrew Karanja, The Economic Updates aim to support all those Hannah Messerli, Yira J. Mascaro, Thilakaratna who want to improve the economic manage- Ranaweera, Dimitri Stoelinga, Fredrick Wamal- ment of Kenya. Specifically, the notes are in- wa and Carolyn Wangusi. Important contribu- tended to help inform and stimulate knowledge tions were also received from Aurélien Kruse, and debate on topical policy issues, and in doing Tracey Lane, Lucas Ojiambo and Shane Streifel. so to make a contribution in unleashing Kenya's Kathie Krumm (Sector Manager, East Africa and growth potential. In essence, the notes offer the Horn) and Johannes Zutt (Country Director another voice on economic issues in Kenya, and Kenya) provided guidance and advice, and have another platform for engagement, learning and been an invaluable source of encouragement to change. the team. This first edition of the Kenya Economic Update A panel of reviewers from outside and inside the is titled "Still standing ­ Kenya's slow recovery World Bank provided excellent advice at major from a quadruple shock, with a special focus stages of the report. They included Aly Khan on the food crisis". This title has two mean- (www.rich.co.ke), Scott Rogers (IMF), Louis Kuijs, ings, which are both true for Kenya today. First, and Hassan Zaman (both World Bank). the economy seems to stand still as economic growth barely matches population growth, indi- The team benefited greatly from consultations cating that Kenya continues to operate below its with Kenya's key policy makers and analysts, potential. Second, Kenya's economy has weath- which provided important insights, in particular ered four consecutive crises ­ post-election vio- the following institutions: the Office of the Prime lence, global food crisis, global financial turmoil, Minister, the Central Bank of Kenya, the Treasury, and drought ­ well enough so that its economy is the Ministry of Planning, the Kenya Institute of "still standing". This report looks at both of these Public Policy and Research Analysis (KIPPRA) and dimensions and analyzes the weaknesses (and the Kenya National Bureau of Statistics (KNBS). December 2009 | Edition No. 1 i CURRENCY AND EQUIVALENTS UNITS (Fiscal Year: July 1 ­ June 30) Currency = Kenyan Shillings US $1.00 = KSh 75.50 ABBREVIATIONS AND ACRONYMS CBK Central Bank of Kenya CBR Central Bank Rate COMESA Common Market for Eastern and Southern Africa CPI Consumer Price Index CRR Cash Reserve Ratio EAC East Africa Community EASSY The East and Southern African Submarine System ESF External Shock Facility FDI Foreign Direct Investment FY Financial Year GDP Gross Domestic Product HGSFP Home Grown School Feeding Program IMF International Monetary Fund KFSSG Kenya Food Security Steering Group KNBS Kenya National Bureau of Statistics KSHS Kenya Shillings ME Middle East MoF Ministry of Finance MT Metric Tonnes NCPB National Cereals and Produce Board NGOs Non-Governmental Organizations NPLs Non-Performing Loans NSE Nairobi Stock Exchange ODA Official Development Assistance PRRO Protracted Relief and Recovery Operation SSA Sub-Saharan Africa TEAMS The East Africa Submarine Systems UK United Kingdom US United States WB World Bank WFP World Food Programme December 2009 | Edition No. 1 ii OVERVIEW Kenya is one of few countries in the world which account for 55 percent of the economy are ex- will grow faster in 2009 compared to 2008. But pected to grow by 4.4 percent, led by tourism this is where most of the good news ends. Ke- (+28 percent) which recovered after experienc- nya's projected growth of 2.5 percent in 2009 is ing a record decline in 2008 (-36 percent). Indus- not even matching its population growth, and it try, which accounts for 19 percent of the econo- follows a year which realised even lower growth my, will grow by an estimated 3 percent, owing at 1.7 percent. These growth rates are below Ke- mostly to the booming construction sector (+13 nya's potential, which was demonstrated in 2007, percent). Manufacturing, which represents the when the economy grew by 7.1 percent. At the largest share of Kenya's industry, will grow by 3 same time, the country experienced four shocks percent having been heavily affected by energy in short sequence: the post-election violence shortages. These shortages are also reflected in in early 2008, the oil and food price increases, the contraction of utilities (-9 percent), the worst the global financial crisis and in 2009, the worst performing sub-sector in 2009 (see section 1). drought in a decade. Against the background of these multiple shocks, Kenya's recovery also Despite many challenges, the Kenyan economy demonstrates the resilience of its economy. has proven resilient to the quadruple shocks. Its fiscal position is strong, its financial sector is Agriculture will experience another year of robust, the external sector remains in balance, contraction. In 2008, agriculture declined by 5 and inflation has declined below 10 percent: percent. In 2009, it is expected to contract by an- other 2.3 percent. The agriculture sector has not · Fiscal Position. Kenya entered the financial only been hit by domestic and external shocks crisis from a strong fiscal position. Over the but it is also the sector with some of the most dif- last decade, the country's public debt de- ficult policy and structural challenges. At the end clined from 60 to 43 percent of GDP. This al- of 2009, the price of maize, Kenya's main staple, lowed the government to protect key expen- was double the international price and for most ditures and embark on an ambitious US$ 300 of the year it was also substantially higher than million (Ksh 22 billion) fiscal stimulus pro- in Uganda and Tanzania. The 2008 political cri- gram, resulting in a projected budget deficit sis disrupted food production, especially in the of 6.6 percent of GDP in FY 2009/10. Now it rift valley and the 2009 drought exacerbated the is important to implement the stimulus pack- situation. Furthermore, the interventions of the age speedily, coupled with a commitment to National Cereals and Produce Board (NCPD) have return to lower fiscal deficits by 2011. led to additional price increases, which are detri- mental to the large majority of Kenyans. In the · Financial Sector. Kenya's financial sector con- domestic maize market, less than two percent tinued to grow in 2009, but at a slower pace of Kenyan farmers­mostly large and influential compared to the period before the global cri- producers­are benefitting from the current ex- sis. The banking sector, measured by credit traordinary high food prices. The rest of the pop- growth, grew by an estimated 20 percent in ulation, particularly the urban and rural poor, is 2009, down from 25 percent in 2008. While paying a high price. These inequities point to an the global crisis affected other countries' fi- urgent need to review Kenya's agricultural trade nancial sectors, Kenya has been improving policy and to re-examine the role of the NCPD its performance in two important areas dur- (see also the special focus of this report). ing the last few years, which increased its resilience to global trends. First, the bank- The drivers of Kenya's modest recovery in 2009 ing sector became more stable. The share of are services and construction. Services which non-performing loans (NPLs) fell from 19.3 December 2009 | Edition No. 1 iii percent in 2006 to 9 percent in 2009, despite will continue to grow slower than its peers and a slight worsening since 2009. Second, the neighbors. Ethiopia, Rwanda, Uganda, and Tan- introduction of "mobile money" of which Ke- zania (all +5.5 percent) are expected to be the nya is a global pioneer coupled with the fact strongest performers in Eastern Africa. that major banks are expanding their cus- tomer base, increased access to finance from However, Kenya has the potential to grow at 26.4 percent in 2006 to 40.5 percent in 2009. 4 percent in 2010. But this would depend on re- Nonetheless, there is a risk that the financial covery in the agriculture and manufacturing sec- sector will be affected by "second-round ef- tors, strong implementation of the government's fects" through the four shocks absorbed by fiscal stimulus as well as a favorable global en- the real sector. vironment spurring foreign direct investment. There is also a downside scenario. Slow growth · External Balance. Like in other non-oil ex- may continue beyond 2009 if the domestic con- porting developing countries, Kenya's cur- straints to agricultural and industrial productiv- rent account deficit increased substantially ity continue and/or if the anticipated global re- since 2008. However, the overall balance re- covery does not materialize, which would result mained broadly stable (and recovering from in muted demand for Kenya's exports of goods a deficit of 2 percent of GDP in early 2009) and services, particularly tourism. due to strong services exports (including tourism) and a strengthening of the capital As Kenya enters a new decade, there are op- account. This is also why the Kenyan Shilling portunities to accelerate growth and reduce has remained stable over the last two years, poverty. Building on a strong macroeconomic only supported by temporary drawing down foundation, the government responded appro- of reserves in early 2009. However, there re- priately to the financial crisis, by protecting key mains a risk if oil prices rise further in 2010. public expenditures and adopting a fiscal stimu- lus package. The downward revision of inflation · Inflation. Kenya's overall inflation declined further added credibility to the government's substantially from 19.5 percent at the end of monetary policies. The main challenge for 2010 2008 to below 5 percent at the end of 2009. is the implementation of the fiscal stimulus pack- Kenya is now a low inflation country; another age, while returning to lower fiscal deficits by indication of its strong macroeconomic poli- 2011 to guard against pro-cyclicality. The main cies. In the past, there has been some uncer- focus should be on protecting core social and tainty about actual inflation levels due to the infrastructure expenditures, while continuing a use of a methodology which had an upward public investment program which Kenya would bias, particularly during food price volatility. have programmed even in normal times. In October 2009, Kenya revised its inflation methodology, which corrected this upward Infrastructure bottlenecks and agricultural pol- bias and is in line with international good icy remain Kenya's main policy challenges. In- practice (see section 2.2). frastructure bottlenecks continue to negatively impact the economy, in particular the manufac- For 2010, the World Bank projects a GDP growth turing and agro-export sectors. The government rate of 3.5 percent, and a continuation of the has embarked on an ambitious program to up- country's modest recovery after the four shocks. grade the road network and to expand energy This projection is in the range of Kenya's average generation, particularly geo-thermal. These im- growth rate since 2000 (3.7 percent) and similar provements will also be critical to jump-start to the expected growth rate for Sub-Saharan Af- Kenya's merchandise exports which have been rica (3.65 percent). However, at this rate, Kenya stagnant at around US$ 4 billion since 2006. December 2009 | Edition No. 1 iv The agriculture sector remains the Achilles' heel transfers to vulnerable urban households, and of Kenya's economy, both in terms of produc- school feeding programs. In the medium term, tion and wealth distribution. The sector's per- priorities include (i) reforming the NCPB; (ii) con- formance has been hit hard by external shocks tinuing the major push to upgrade infrastruc- and depressed by domestic policy challenges. ture; and (iii) investing in agricultural technology The government, together with development generation and dissemination to reduce overde- partners, has responded relatively well to miti- pendence on maize (see special focus section). gate the impact of the 2009 drought. For 2010 and beyond, the key challenge is to address Kenya aspires to become a middle-income structural bottlenecks in agricultural policies country and it can build on a good foundation to which have been benefitting a very small group progress towards this goal in the coming years. to the detriment of the general public, including Kenya has a relatively well educated workforce, the majority of Kenya's farmers. a strong private sector, a vibrant civil society, and an emerging urban middle-class. Several of A number of measures could help address the Kenya's sub-sectors, particularly in services, are structural food deficit while supporting the of international standard. At the same time, the poor. In the short term, the government could country has been operating below its potential help the poor, including poor farmers by: (i) con- for a long time and only started demonstrating tinuing the policy of low tariffs for maize and its economic potential from 2004 to 2007--be- grain imports, while at the same time removing fore the quadruple shock. Building on a sound all import quotas; (ii) supporting food and live- foundation of prudent macroeconomic policies stock production through expanding access to and an innovative service sector, Kenya's chal- inputs, credit and extension services; and (iii) lenge is now to implement micro-economic and implementing well-targeted social protection sectoral reforms to unleash its growth potential measures. These include support to orphans in the next decade. and other highly vulnerable individuals, cash December 2009 | Edition No. 1 v The State of Kenya's Economy This first issue of the Kenya Economic Update examines the ways in which the Kenyan economy has been af- fected by four waves of crises. Section one describes the growth outlook for 2009, and how the phenomenon of slow recovery manifested itself across the different sectors of activity. Section two drills deeper into the successive waves of crisis, the transmission mechanisms through which they affected the economy, as well as the government's response to date. Finally, section three concludes the economic update with scenarios for growth in 2010 and an analysis of the assumptions behind them. 1. Growth in 2009 Figure 1 ­ A slow recovery in 2009, growth at 2.5% In 2009, Kenya's growth rate will reach approxi- mately 2.5 percent. This signals a mild recovery compared to the 1.7 percent growth in 2008, but remains below the population growth rate and substantially short of Kenya's potential and as- pirations. While low growth in 2008 was mostly a factor of the post-election violence and high food prices, a rebound in 2009 was hampered by the global financial crisis and the worst drought in a decade. In the first half of 2009, growth was Source: KNBS / WB staff estimates relatively strong at 3 percent but this was partly a catching-up phenomenon after exceptionally low growth in the first half of 2008. For the sec- Kenya's modest recovery has been uneven ond half of 2009, growth is projected to reach across sectors, and is mainly driven by services only 2 percent (see figure 1). and construction. Unlike in other Sub-Saharan December 2009 | Edition No. 1 1 The State of Kenya's Economy economies, services accounts for 55 percent of first quarter of 2010 after the harvest. Kenya's the economy and they continue to be Kenya's food crop production and the country's overall main source of growth in 2009 with an expected food security are also suffering from inadequate growth rate of 4.4 percent. Industry (19 percent structural policies, especially on trade and mar- of the economy) will grow by 2.8 percent, driven keting (see special focus section of this report). by a booming construction sector. However, the agriculture sector (27 percent of the economy), Industry has seen a very mixed performance in saw another year of contraction by 2.3 percent, 2009. The sector's moderate growth of 3 per- following a 5.0 percent decline in 2008 (figure cent is mostly driven by a booming construction 2). sector, which is expected to grow by 9 percent. By contrast, utilities (water and electricity) and Figure 2 ­ 2009 growth: services perform strongly but agriculture contracts again mining will see negative growth rates of -9 per- cent, mainly due to drought-related water and electricity shortages. Manufacturing will only expand at 3 percent, which is below 2008 lev- els (figure 3). The slowdown in the growth of exports for locally manufactured products, high input costs, power rationing and infrastructure deficit have been major hindrances for the man- ufacturing sector, which is losing almost 10 per- cent in sales due to power outages and transport bottlenecks (Investment Climate Assessment, World Bank 2007). Source: KNBS and WB staff estimates (growth at factor costs) Figure 3 - Construction, tourism, transport and communication drove growth in 2009 Agriculture has been the sector most severely impacted by the multiple shocks. The political crisis disrupted production in the first half of 2008 and by the second half, inadequate rainfall and a tripling of input prices (fertilizer) dimmed hopes for a rebound. Recovery in 2009 was muted by the protracted drought. In the first half of the year, tea and horticulture produc- tion fell below 2008 levels (-17 and -7 percent respectively), while coffee production picked up (52 percent growth) from a very low base after Source: KNBS / WB staff estimates years of difficulty. The horticultural industry­cut flowers, fruits, vegetables­which is one of the Defying the odds, Kenya's service sector has fastest growing agricultural sub-sectors, contrib- been performing strongly despite the global cri- uting more than 10 percent of total agricultural sis. Tourism (+28 percent) recovered after a 35 production, weathered the political but not the percent decline in 2008, the worst ever perfor- global crisis. Production contracted by 7 percent mance in Kenya's history (see box 1). Telecoms, in the first half of 2009. The outlook for the end transport, financial services, as well as retail and of the year is mixed: tea production will recover wholesale trade are also expected to perform with the short rains and high global prices pro- better than in 2008. However, financial services vide a boost for exports. For maize, the effects of will grow at only 2 percent, compared to 3.5 per- the drought are expected to recede only in the cent in 2008. December 2009 | Edition No. 1 2 The State of Kenya's Economy Box 1 ­ Kenya's Tourism: short term recovery but looming challenges In 2009, tourism in Kenya recovered. The sector mirrors the overall economy which recovered despite the global crisis, mainly due to the weakness of 2008 rather than strength in 2009. Tourist arrivals (air and sea) to Kenya are expected to reach 930,000 by the end of 2009; a 40 percent increase compared to 2008. This recovery was supported by aggressive marketing, discounting of prices and a generally positive performance of the sector in Africa (+4 percent) which grew against global trends (-7 percent). However, Kenya's tourism revenues have thus only increased by 28 percent, after a 35 percent decline in 2008. While a substantial improvement over last year, sector revenues are still below the 2007 level. Kenya's tourism sector is at a point of transition. Traditional source markets in the US and Europe have declined while travelers from new source markets are on the rise. New markets include Russia, China, the Middle East as well as Kenya's growing middle income group which has an expanding appetite for travel as do travelers from other African countries. These new markets offer the promise of increased arrivals. However, the spending propensity of these groups is less certain than that of traditional long haul travelers. This may explain why early estimates of 2009 tourism receipts are lower on a per traveler basis than in previous years. Alternatively, and a point of greater concern, is the possibility that lower average per person expenditures are a result of Kenya's tourism offering being dated and limited in an expanding regional and global market- place of attractive travel destinations. Source: World Bank staff Telecommunication is one of Kenya's most dy- plier is in the financial sector through the intro- namic sectors. Since 2008, connectivity to the duction of "mobile money" with an estimated internet (+28 percent) and phones (+35 percent) customer base of 7 million subscribers (see also increased rapidly (see figure 4). By mid 2009, 17.3 section on the financial sector). million Kenyans owned a mobile phone, which translates into a penetration rate of 77 percent Figure 4 ­ Rapid increase in internet and telephone (for those 15 years and above). Telecommunica- connectivity since 2008 tion is becoming not only an important growth sector on its own but has started to create posi- tive spillover effects for other sectors of the economy. Faster internet connectivity through fiber optic cables, the East Africa Submarine Sys- tems (TEAMS) and the East and Southern African Submarine System (EASSY), which now connect East Africa to the rest of the world, will increase efficiency in the broader economy and has al- ready boosted the service export industry (e.g. call centers). Perhaps the most significant multi- Source: Communication Commission of Kenya, 2009 December 2009 | Edition No. 1 3 The State of Kenya's Economy 2. Weathering the Storm ­ Kenya One ed from the first round effects of the crisis, and Year after the Global Financial Crisis were helped by complementary reforms, which have contributed to reduce NPLs since 2006. The 2.1. Transmission Mechanisms and Response other key transmission mechanisms of the glob- al crisis ­ trade and financial flows ­ have been One year after the crisis, Kenya's economy is still impacted but have not seen sharp reversals (see standing. The first round impacts of the global table 1). crisis have been relatively mild and were over- shadowed by other shocks. Strong macroeco- 2.2. The Financial Sector and Monetary Policy nomic policies and additional reforms in recent years have also helped the country to weather The banking system has remained relatively in- the global crisis. A solid fiscal position and con- sulated from the direct effects of the financial tinued revenue efforts allowed the government crisis, but there are emerging signs of vulner- to enact an ambitious fiscal stimulus program for ability to feedback effects. Despite the relative 2009 and 2010. Kenyan banks have been shield- openness of Kenya's financial sector compared Table 1 ­ Kenya's weathering the global crisis: transmission mechanism and response 1a. The Transmission Mechanism Transmission Status 2009 Outlook 2010 Mechanism Banks No contagion. NPLs stand at 9 percent Increased lending and other financial (September 2009). services to the real sector as the economy recovers. Capital Adequacy: 19.8 percent against a statutory requirement of 12 percent. Trade Current account deficit at 6.7 percent of Current account deficit projected to GDP. Recovery in tourism helped (partly) decline to below 6 percent of GDP. to stabilize services account. Financial Flows Remittances projected to grow by Remittances expected to recover in line (remittances, FDI, other 3 percent (higher than expected, but below with global trends. Reduced transaction flows) pre-crisis growth rates). costs with expansion of "mobile money" can trigger additional transfers. Net FDI expected to drop by US$ 500 million (but "other financial flows" FDI remains subdued until the global have increased). economy recovers; dependent on IPOs, particularly in services. Nairobi Stock exchange index mirrors Dow Jones and remains more than 50 percent below mid 2008 levels. December 2009 | Edition No. 1 4 The State of Kenya's Economy Table 1 contd. 1b. The Response Response Status 2009 Outlook 2010 Monetary easing and Reverse Repos to inject liquidity in the market Ensure price stability and maintain inflation debt management and keep broad money aggregates on target. at 5 percent. Central Bank Rate (CBR) reduced by 175 basis points to 7 percent. Sharp decline of inflation to 5 percent by end 2009; average inflation for 2009: 10.2 percent. Drawing down of external reserves by US$ 700 mil- Reserves build up to 4 months of import lion, from 4 months to 2.7 months of import cover. cover. Expected improvements in debt management and increased liquidity in Exogenous Shock Facility from the IMF injected government bond markets. US$ 200 million. Fiscal Stimulus Supplemental budget for FY08/09 increased Debt to GDP ratio remains the fiscal anchor. deficit to 5.9 percent of GDP, but realization at Debt sustainability and interest rate impact 3.7 percent due to difficulties in absorption. of additional government borrowing will determine the size of stimulus if still required. FY09/10 increased deficit to 6 percent of GDP; ad- ditional spending for rural infrastructure and social safety nets. to other African countries, its exposure to the 2006-08; and average lending rates have been direct effects of the crisis was limited. This was relatively low in real terms and stable. largely thanks to limited inter-linkages with for- eign banks and exposure to complex financial However, the negative shocks reduced credit products. Overall, Kenyan banks remain well growth from 25 percent in 2008 to about 20 capitalized and the financial sector has made percent in 2009 with growth in credit to house- substantial progress towards increasing stabili- holds declining sharply (see figure 5). Com- ty, improving access to finance and adopting key mercial bank lending rates have been sticky, reforms. The share of NPLs has fallen from 19.3 reflecting an increased perception of risk in the percent in 2006 to 9 percent in 2009; capital ad- market as a result of low growth in the real sec- equacy in the banking sector was 19.8 percent tor. Credit to the agriculture sector has been at the end of August 2009, above the 12 per- most deeply impacted and contracted until the cent minimum; the banking sector is profitable, last quarter of 2008. with a return on equity above 30 percent over Figure 5 ­ In 2009, credit growth expected to be 12 percent ­ but credit to households declined Source: Statistical Bulletin, CBK. Note: credit growth is year-on-year December 2009 | Edition No. 1 5 The State of Kenya's Economy The impact of the financial crisis can also be Figure 7 - The CBR rate has been reduced by 175 basis traced through the capital flows to Kenya, points to inject liquidity in the market which reflect global trends and reduced FDI flows. The Nairobi Stock Exchange (NSE) index declined sharply since the beginning of the glob- al financial crisis, and recovered only modestly in 2009. The poor performance of the NSE was also influenced by internal governance challeng- es which, however, have been addressed in re- cent months. Overall, the NSE index mirrors the performance of other indices around the world, including the South African stock market and the Dow Jones (see figure 6). Source: Central Bank of Kenya Figure 6 ­ Kenya's stock market performance follows global trends Overall inflation declined substantially from a high of 19.5 percent (November 2008) to 5 per- cent (November 2009). The sharp reduction in 2009 brings inflation back to the target of the Central Bank of Kenya (CBK) which it left since early 2008, when the global food crisis and the domestic political crisis resulted in a tripling of inflation. However, core inflation (which includes food and energy in Kenya) has remained at or below 10 percent, even during the height of the combined food and post-election crises in the first half of 2008. Source: Nairobi Stock exchange & Dow Jones During this period, Kenya's inflation estimates To mitigate the impact of the global financial have been complicated by a computation crisis, the Central Bank has been implement- method which caused an additional upward ing countercyclical monetary policies to inject bias. However, in October 2009 the government liquidity in the market. The Central Bank Rate adopted a new methodology ¹ for measuring in- (CBR) has been reduced by 175 basis points from flation in line with international good practice. 8.75 in the first quarter of 2008 to 7 in the last The new methodology removes the upward bias quarter of 2009 (see figure 7). The Cash Reserve which was particularly sensitive to volatile food Ratio (CRR) has also been reduced from 6 per- prices. The new methodology provides a more cent in 2008 to 4.5 percent in 2009. This was to accurate assessment of price changes creating ensure that government borrowing in the do- more certainty for business and labor and add- mestic market would not have a crowding out ing credibility to the CBK's monetary policy (see effect by putting pressure on lending rates. As a figure 8). As a next step, the government has result, lending rates have been stable at single also announced an adjustment in the basket of digits; the 91 day T bill rate has averaged about consumer prices in February 2010, reducing the 7.5 in 2009. ¹ There are two broad types of methods to aggregate price data: arithmetic mean and geometric mean. Until October 2009, Kenya has been using the arithmetic mean (linked Carli index) which demonstrates a particularly strong upward bias during periods of high and volatile inflation. In October 2009, KNBS shifted to a weighted geometric mean (Jevons index). See also "Estimating Kenya's inflation level" (unpublished working paper, World Bank, October 2009). December 2009 | Edition No. 1 6 The State of Kenya's Economy weight of food in the consumer price index (CPI) The Central Bank's policy response was to draw from 50 to 40 percent. With this additional ad- down foreign exchange reserves while borrow- justment, overall inflation is expected to decline ing from the IMF's Exogenous Shock Facility (US further. $ 200 million) to stabilize the exchange rate. Be- fore the crisis foreign exchange reserves stood at Figure 8 ­ Inflation under the new and old methodologies US$ 3.5 billion, about 4 months of import cover. By February 2009, the Central Bank drew down more than US $ 700 million and reserves stood at US $ 2.7billion, 2.7 months of import cover. The exchange rate depreciated at the beginning of the crisis but since March 2009, the shilling has been appreciating and the CBK has been ac- cumulating a recovery of reserves (figure 10). Figure 10 ­ Decline and recovery of Foreign exchange Source: KNBS - new is geometric mean, old is arithmetic mean reserves and import cover 2.3. The External Sector Since the onset of the global financial crisis Ke- nya's current account deficit increased from 4.5 percent in 2008 to 7.5 percent of GDP in 2009. Kenya has a structural current account deficit which is driven by a large trade deficit (US$ 6 bil- lion), which is partly compensated by a strong service balance (US$ +3.5 billion). The overall bal- ance remains stable due to strong capital inflows Source: World Bank computations based on CBK which have been increasing to above US$ 2 bill- lion in 2009, mainly due to rising "other flows", After a sharp increase in Kenya's import bill in stable transfers of remittances and increasing 2008, mainly due to rising oil and fertilizer pric- ODA disbursements. With the onset of the finan- es, the trade balance improved slightly in 2009 cial crisis, Kenya's overall balance turned nega- when imports started to decline (figure 11). tive as the trade imbalance widened further and Exports never benefitted from the global com- service exports leveled off (figure 9). modity boom in 2008 due to the disruption in agriculture production after the post-election Figure 9 - Kenya's Balance of Payments: Services and capital flows balance a widening trade deficit crisis. In 2009, the global crisis constrained the demand for exports and the drought limited the growth of agriculture exports while creating additional need for imports. Additional maize imports to close the food deficit exerted pres- sure on the current account and this is expected to continue until the first quarter of 2010 (see also Annex 3). Volume exports for tea and hor- ticulture declined but coffee volumes increased though from a very low base. Tea production was particularly impacted by the drought and horticulture by the slowdown in global demand Source: World Bank computations based on CBK but high prices for coffee and tea compensated December 2009 | Edition No. 1 7 The State of Kenya's Economy for the volume shortfalls. Overall terms of trade Figure 12 ­ Fiscal deficits remain manageable despite the 2009 stimulus will remain unfavorable to Kenya until there is a significant reduction in oil prices. The key chal- lenge to export growth is limited diversification which is constrained by lack of competitiveness, especially in manufacturing--attributed to high cost of doing business. Figure 11 ­ Since 2007, imports have been rising faster than exports Source: Statistical Annex to the budget Speech, Budget Strategy Paper forms in debt markets and structural measures to increase liquidity. Until the government will be in a position to issue international bonds, these reforms to the domestic debt market will help to finance the budget deficit at low costs. Kenya can now issue debt at single digit levels, and af- Source: World Bank computations based on CBK ford to finance a stimulus package from the do- mestic market within sustainable debt limits. 2.4. Fiscal Position and Response The government was able to adopt an expan- Kenya entered the financial crisis from a strong sionary fiscal policy starting in FY2008/09. Ad- fiscal position. For most of this decade Kenya ditional spending, if realized, would increase the has been running a primary fiscal surplus which, deficit to 6.6 percent in 2009/10. The financing coupled with strong growth, led to a reduction plan is composed of Kshs 50 billion (US$ 660 mil- in overall debt levels from 60 percent of GDP lion) of net foreign financing and a balance of (2000) to 40 percent (2008). This reduction and a Kshs 118 billion (US$ 1.4 billion), equivalent to strong revenue effort created the fiscal space to 4.3 percent of GDP, from the domestic market. increase spending on infrastructure. In addition, Total public debt will increase from 40 to 43 per- the proceeds from privatization of state owned cent of GDP, with a commitment to return to the enterprises were also used to retire debt and 40 percent target in the medium term. The fis- Kenya now uses the debt to GDP ratio as fiscal cal strategy is two-pronged: increased domestic policy anchor with a target ratio of 40 percent. borrowing through "infrastructure bonds", and Thus, when the multiple shocks hit the economy, rationalized expenditure on hospitality, office the government had the ability to stimulate the equipment and travel. economy without compromising macroeconom- ic stability (figure 12). Figure 13: The restructuring of Kenya's domestic debt The Central Bank also used the opportunity of improving macro-fundamentals to shift govern- ment debt from 90 day Treasury bills to Trea- sury bonds with longer term maturity profiles (see figure 13). This shift in debt financing and management has helped to ease the debt ser- vice pressure and was supported by domestic re- Source: Statistical Abstract, CBK December 2009 | Edition No. 1 8 The State of Kenya's Economy The fiscal stimulus created an opportunity for Accelerating investment budget execution and additional spending on infrastructure and so- implementation, and in particular projects with cial protection. Spending on infrastructure in- aid financing commitments, can complement creased from 6.7 percent of GDP in FY 2007/08 the stimulus package and improve the balance to 7.1 percent in FY 2008/09, with a further of payments. For instance, increasing donor dis- projected increase to about 10 percent in FY bursements from 50 to 80 percent in FY 2009/10 2009/10, and a strong focus on rural market would boost total spending by an additional US$ development. Priorities in sector allocations 400 million, which is more than the IMF pro- remain broadly in line with previous trends: hu- vided through the External Shock Facility (ESF), man resource development accounts for 35 per- without additional debt commitments. cent of recurrent spending, and infrastructure for 38 percent of development spending. Jointly, Unlike in most developing countries, Kenya's the two sectors account for about 50 percent of fiscal policy had been a-cyclical and does not total spending (47 percent in 2008/09 and 48 `lean with the wind'. Most developing coun- percent in 2009/10). The other significant com- tries adopt a pro-cyclical fiscal policy, which ponent of the stimulus is a Kshs 7.6 billion (US$ contributes to macroeconomic volatility. This 100 million) allocation for social safety nets. highlights the importance of Kenya exiting the Most of it (Kshs 6.6. billion) was allocated for the fiscal stimulus program as recovery takes hold second phase of a youth workfare program, the to guard against pro-cyclicality. In the context of Kazi Kwa Vijana. Kshs 1 billion was allocated for a quadruple shock the attempt at a countercy- a targeted food subsidy scheme. clical fiscal policy seems appropriate. While the magnitude of the impact in the short-run may be However, delays in budget implementation limited, ² it was important to protect core social could reduce the overall impact of the stimulus and infrastructure expenditures while continu- package. Investments in public services, partic- ing a public investment program which Kenya ularly infrastructure, require lead time and are would have programmed even in normal times also often delayed due to cumbersome procure- to contribute to reaching its growth potential. ment procedures. During the last fiscal year, the full stimulus was not achieved and the budget 3. Entering a New Decade: Kenya's deficit was -3.7 percent against a target of -5.9 Growth Outlook for 2010 percent. On average, only two thirds of the de- velopment budget is utilized each year but the The World Bank projects Kenya's growth rate at ratio has been increasing (see figure 14). 3.5 percent in 2010. This is a continuation of the Figure 14 - Development budget implementation is only timid recovery since 2008 and would result in a 65 percent but has improved modest increase in income per-capita of about 1 percent. If realized, Kenya's growth rate would be close to the average for Sub Sahara Africa (4.1 percent), which is expected to rebound mainly due to South Africa. But Kenya will continue to lag behind its neighbors. Kenya's expected growth performance will be significantly lower than that projected for Uganda, Tanzania, Ethio- pia and Rwanda (see figures 15, Annex 2 for key assumptions of growth forecast, and Annex 3 for the underlying data). Source: World Bank 2009. Fiscal Policies and Institutions for Shared Growth ² A forthcomig world ak report also estimates that i the past a10 percet fiscal impulse led to ly 1 percet chage i gdp. Fiscal policies adistitutios for sharedgrowth:lessosfromthegloalcrisi,worldak2009. December 2009 | Edition No. 1 9 The State of Kenya's Economy Kenya's recovery will be driven by services and muted demand for Kenya's exports of goods and industry, while agriculture performance will re- services (i.e tourism). These conditions in turn main sluggish until the second half of 2010. If would slow down the overall economy, even if this year's trends continue, transport, commu- some fiscal stimulus could be sustained through- nications, tourism and trade will drive the recov- out 2010 (figure 16). ery in the services sector, together with a strong recovery in the financial sector. Tourism arriv- Figure 16 - 2010 growth scenarios als show a positive trend, albeit still recovering from the sharp decline in 2008. A combination of aggressive source market diversification by the government and the 2010 FIFA World Cup in South Africa is expected to boost performance for the sector. Kenya could grow at 4 percent in 2010, espe- cially if agriculture performance improves due to favorable weather, and the supply of utilities (water and electricity) normalize to pre crisis Source: World Bank 2009, Fiscal Policies and Institutions for Shared Growth situation. This scenario also assumes a faster than expected recovery in trading partner coun- The continuation of Kenya's modest recovery tries, pulling the tradable sectors and creating a in 2010 is reflected in a corresponding pick up second round growth impetus to the non-trad- in aggregate demand. Private consumption and able sectors. investment as a share of GDP are expected to increase marginally. Supported by the stimulus On the other hand, if both the domestic econ- package, public investment is expected to boost omy and the global environment remain slug- aggregate demand (see Annex 2 for 2010 growth gish, GDP growth in 2010 will be similar to 2009 assumptions). In the relatively more favorable at around 2.7 percent. This "low" growth sce- external market conditions expected in 2010, nario assumes weather conditions that do not exports are projected to increase. At the same enable a substantial pick up in agriculture (both time, with the higher growth expected in 2010 in domestic and export oriented), as well as a less the domestic economy and a higher oil bill, the rapid and robust global recovery, resulting in share of imports is also bound to go up. Figure 15 ­ Kenya's growth performance in a regional perspective Source: World Bank staff estimates December 2009 | Edition No. 1 10 Special Focus ­ Kenya and The Food Crisis This special focus section provides a deeper analysis of Kenya's food crisis, which started in early 2008 with the rise in global food prices. Since then, Kenya's food prices doubled but, unlike global food prices, never de- clined. Kenya's food crisis was compounded by the 2008 post-election violence, which disrupted one planting season, and a severe drought in 2009 which left an additional four million rural poor in need of food aid. This note explains the effects of the 2008 and 2009 crises on Kenya's poor and analyzes the underlying causes of Kenya's food crisis, in particular of maize, which is Kenya's main staple. 1.Understanding the Effects of the 2008 cluding a widespread drought during the 2009 and 2009 Crises long rains planting season, further deteriorated the situation. A reduction of tariffs on maize Like many countries in the world, Kenya was (including the temporary elimination of import affected by the 2008 global food crisis. Kenya's duty) by the Kenyan government in January 2009 food prices increased sharply alongside interna- came too late to address acute food shortages. A tional prices as a result of global trends, includ- parallel intervention by the NCPB led prices to ing rising demand for bio-fuels and high oil pric- rise further in 2009. The Kenya Food Security es. In Kenya's case, this also corresponded with Steering Group (KFSSG) ³ estimates that output the post-election crisis which disrupted the 2008 of maize will be 28 percent below normal levels planting season and decreased the area planted in 2009 as a result of insufficient rains. with maize by 20 percent during the crucial long rains in early 2008. Tanzania's maize export ban The impacts of changes in food production and further exacerbated food supply problems in Ke- prices differ across socio-professional groups. nya. The main groups affected by Kenya's maize pol- icy are: (a) households that are pure food con- In 2009, Kenya's food crisis became even more sumers (who buy but do not produce food), a acute. A series of three failed rain seasons, in- category which includes most of the urban poor December 2009 | Edition No. 1 11 Special Focus ­ Kenya and The Food Crisis and the landless, as well as urban non-poor; (b) income from farming. In rural areas, the effects farming households that are net buyers of maize, of high food prices were more nuanced. Net and; (c) farming households that are net sellers. food sellers as a whole benefitted, as they saw In Kenya, approximately 60 percent of all farm- their incomes rise. However, because most of ing households--and an even higher percentage the rural poor are net buyers of food, the typi- of poor farming households--are net buyers, cal poor rural Kenyan was negatively impacted meaning that they buy more maize than they by the food price spike. sell. In contrast, 2 percent of Kenya's farmers ac- count for over 50 percent of maize sales. The situation deteriorated in 2009, with rising prices driven by drought-induced low produc- The high food prices of 2008 had a negative tion. While government, together with develop- impact on most of the poor in both rural and ment partners, invested heavily to boost produc- urban areas. Analysis in the World Bank's 2009 tion, unfavorable weather conditions reduced Poverty Assessment showed that the poor in Ke- the expected impact. For the urban poor, the nya devote 70 percent of their expenditure on effects were similar to those of 2008: a steep food on average, and those in the poorest 20 drop in purchasing power. However, this time percent of the population spend 77 percent. The the effects were different for the rural poor. In high food prices of 2008 reduced the disposable 2009 the area of depressed production due to income of the poor and near-poor, resulting in lack of rainfall was larger than the area affected increased poverty. The urban poor were particu- by the post-election violence in 2008, resulting larly hard hit as they typically do not derive any in a more widespread impact (see Table 2). Table 2 - Impact of the 2008 and 2009 food crises on different target groups Urban Poor Rural Poor Primary Cause All Net sellers Net buyers 2008 Rising Negative Positive Negative Food international Price Spike prices 2009 Localized Negative Mixed, negative in Negative Food drought drought areas Crisis Source: World Bank staff ³ The Kenya Food Security Steering group is a technical working group which monitors the food security situation and provides regular update. The group has broad stakeholder representation from Government departments, Donor agencies and NGOs. December 2009 | Edition No. 1 12 Special Focus ­ Kenya and The Food Crisis 2. Policy Response Options · Urban poor. Food related support is limited in urban areas. Estimates indicate that, exclud- General subsidy programs, like the one at- ing school feeding programs, about 90,000 tempted in late 2008, tend to be expensive and people are covered in Nairobi slums by relief to not efficiently target the intended popula- programs provided by NGOs. The govern- tions. In an attempt to cushion the vulnerable ment is in the process of designing a targeted against rising food prices, the government in- cash transfer program for this group. troduced a generalized maize subsidy scheme in November 2008. The scheme had two compo- · School going children. A regular school feed- nents. The first was a policy to sell maize to mill- ing program is managed by WFP on behalf of ers through the NCPB at below-market prices. the government and caters to about 770,000 The private sector was prevented from buying children. An evaluation completed in 2007 directly from farmers during this period. The suggests that the program has positively millers were then expected to pass on the sub- contributed to increased enrollment, atten- sidy and sell the flour at a price below prevailing dance, and completion rates. From July 2009 retail prices to everyone regardless of income the government started funding the Home status. However, rather than selling directly to Grown School Feeding Program (HGSFP) the millers, the NCPB sold the maize to brokers, which covers about 550,000 children. These who then sold to the millers. The Kenyan public two programs cover about 1.3 million chil- lost an estimated Kshs 23.4 billion (US$ 310 mil- dren. lion) in subsidies and taxes foregone during the last fiscal year. The government withdrew the Other social safety net programs, notably the scheme in February 2009, with a commitment youth workfare program (Kazi Kwa Vijana), sup- to develop an alternative, more efficient and tar- plement income and also improve food security, geted policy. even if not explicitly focused on food (see sec- tion 2.4). Existing government programs target three overlapping groups: i) pastoralists and agro- 3. Food Prices and Food Production pastoralists in food insecure areas; ii) the urban poor; and iii) school-going children. A summary Kenya has traditionally pursued a high food of the safetyness options being considered for price policy, particularly with respect to maize. them is provided below. Wholesale maize prices averaged US$ 180 per ton between 1994 and 2005, making Kenya's · Pastoralist and agro-pastoralists in food in- maize prices amongst the highest in Africa. Im- secure areas. This group is a subset of the port tariffs for cereals are in the range of 25­ rural poor identified in Table 2. The World 30 percent. Until recently, maize inflows from Bank's 2009 Poverty Assessment found that neighboring countries were restricted. In addi- this group is the most disadvantaged in terms tion, the operations of the NCPB have raised the of levels of consumption and access to basic maize price in the country by offering producer services. The most significant program direct- prices for maize above market levels. ed at this group is the emergency Protracted Relief and Recovery Operation (PRRO), man- From mid-2008 onwards, the gap between Ke- aged by the World Food Programme (WFP) nya's maize prices and world prices has grown on behalf of the government, and other de- markedly. Since the onset of the global food cri- velopment partners, covering about 2.6 mil- sis, the price of maize doubled from US$ 185 per lion people. metric ton in April 2007 to US$ 356 in June 2008. While global maize prices declined to pre-crisis December 2009 | Edition No. 1 13 Special Focus ­ Kenya and The Food Crisis levels, maize prices in Kenya remained high and levels have distributional effects that contra- increased further, reaching US$ 404 in May 2009 dict stated poverty reduction goals. The major- (see Figure 17). Prices in neighboring countries ity of the rural poor, who are the net purchasers also remained high, but less so than in Kenya of staples such as maize, wheat, and rice, are di- (Figure 18). Although the tight supply situation rectly hurt by policies that raise prices of these prevailing in 2008/09 could partially account commodities. Higher import prices risk jeop- for the high prices, domestic marketing policies ardizing the food security of millions of low-in- constitute the main reason. Research shows that come consumers. The current maize production the impact of NCPB market intervention has structure is skewed in favor of the 2 percent of been to keep maize prices high, while the stated maize farmers, who account for over 50 percent objective of stabilizing prices has not material- of the sales. This supports the view that expen- ized. Grain prices continue to be volatile and ditures on the development and dissemination unpredictable. Further, marketing margins are of improved agricultural technology, provision of Figure 17 ­ Kenya's maize prices increased while global credit for small farms, and investments in rural prices declined infrastructure would more directly benefit small- holder farmers in the bottom half of the income distribution, and contribute more to rural pov- erty reduction than the current maize producer price support. With rapid population growth and declining farm size, Kenya now has a structural maize def- icit, which is likely to grow in the coming years. Kenya expects a long rains maize harvest (Oct- Dec 2009) of about 1.8 million Metric Tonnes Source: World Bank commodity price data-stream, Regional (MT) and a short rains harvest of 0.3 million MT Agricultural Trade Intelligence Network to be harvested in March 2010. With a national consumption rate of about 3.2 million MT, and Figure 18 ­ Kenya's maize prices are also higher than its neigh- the strategic stocks running low, it is expected bors but the gap closed since mid 2009 that Kenya will continue to import maize to close the deficit. Taking into account new technol- ogy developments and past productivity growth trends, farm sizes in most parts of Kenya are too small for grain-based agriculture to lift most ru- ral households out of poverty. Given existing landholdings, 38 percent of farmers in western Kenya and 67 percent in the eastern lowlands, for example, could not be self-sufficient in maize production even if they devoted all of their land to growing maize. Even under an optimistic sce- nario in which maize yields rise by 50 percent, Source: World Bank commodity price data-stream; Regional Agricultural Trade Intelligence Network the intensification of grain production for the market would be a relatively unattractive way high. See Annex 1 for an analysis of the needed to maximize crop revenue on very small farms. reforms in Kenya's maize sector. Diversification to higher value crops has proven to be a more effective strategy for poverty re- Maize policies which raise prices above market December 2009 | Edition No. 1 14 Special Focus ­ Kenya and The Food Crisis duction. Therefore, given current consumption interests of large farmers, without due consid- patterns, Kenya will continue to rely on imported eration of the impacts on consumers and the maize, and policies should change to reflect this poor. The pressures from globalization and re- reality. gional integration are intensely and continuous- ly confronting policy makers in Kenya with the The profile of food insecurity of the Kenyan classic food price policy dilemma of how best to population has changed in the last ten years. deal with producer incentives without hurting Most farmers are net buyers of staple food. the welfare of consumers. In most cases these Wide disparities in landholding size has given policies have turned out to be counter-produc- rise to a highly concentrated pattern of market- tive and anti-poor, as they have increased food ed agricultural output from the small-farm sec- prices and thus made it more expensive for the tor. Less than 2 percent of producers account for poor to feed themselves. 50 percent of the marketed maize production in Kenya, and their average maize sales income is A number of reforms could help alleviate Ke- over 20 times that of the bottom 70 percent of nya's food crisis. Given that most Kenyans and households. By contrast, more than 60 percent particularly the poor are net food buyers, low- of farmers are net buyers of maize, living on rela- ering food prices is good for the poor. The re- tively small farms with other farm and non-farm duction of tariffs in 2009, if done earlier, would sources of income (see Table 3). have avoided the worsening price trends. Box 2 outlines six measures which, if taken, would sup- In the recent past, food policies have been port Kenya's poor and middle-class, both urban mainly driven by the objective to safeguard the and rural. Table 3 ­ Two percent of maize farmers control 50 percent of the market Net maize sellers Net maize consumers Farms accounting for Rest of maize 50% of maize sales sellers Share of households 1.7% 36.7% 61.6% Gross revenue, maize sales (US$, mean) 3,474 162 0 Total household income (US$, mean) 8,849 2,357 1,565 Land holding size (ha, mean) 11.09 2.77 1.56 Source: World Bank staff estimates Note: this table is based on the forthcoming Kenya ­ Agricultural Policy Review: Current Trends and Future Options for Pro-Poor Agricultural Growth December 2009 | Edition No. 1 15 Special Focus ­ Kenya and The Food Crisis Box 2 ­ Policy options for Kenya: six actions to solve the food crisis Short-Term 1. Lower Tariff for Maize and Grain Imports. Allowing the maximum amount of food to enter Kenya will lower prices and help the poor to become food secure. It will also be important to remove other import restrictions (such as import quotas) and to work with the other members of the East African Community to eliminate the barriers to regional trade in food. 2. Support Food and Livestock Production. This includes improving access to inputs, improving access to credit and other services, and support to pastoralists and farmers in the marginal areas through restocking and sup- ply of planting material for drought tolerant crops. 3. Implement well-targeted social protection measures. These include support to orphans and other highly vulnerable individuals, cash transfers to vulnerable urban households, and school feeding programs. Medium-Term 4. Reform the NCPB. Most NCPB interventions have increased prices when only 2 percent of smallholders sell to the cereals board. As in other countries, such marketing boards are also prone to governance challenges, as the maize marketing scandal of 2008 has demonstrated (see also Annex 1) 5. Continue to Improve Kenya's infrastructure. Value chain analyses demonstrated that transport costs ac- count for the largest share of the marketing margin. Continued investments in roads will make Kenya's farm- ers more competitive. Protecting Kenya's watersheds, and investing in water storage and irrigation, thereby reducing dependence on rainfall, would also help to improve Kenya's food security. 6. Continue to Invest in Improved agricultural technology generation and dissemination to reduce its overde- pendence on maize. Non-cereal components of agricultural GDP have performed significantly better than cereals, particularly maize, despite the fact that maize historically has received a great deal of policy and investment attention. Shifting production patterns toward non-cereals would not only help improve food security but also help to diversify farmers' incomes. December 2009 | Edition No. 1 16 ANNEXES Annexes Annex 1: The Reform of Maize Marketing in Kenya Given that maize is Kenya's major food staple, and producers of other farm products through efficient maize marketing is critical to food se- high maize prices. Solving this conundrum will curity, poverty reduction, and producer incen- involve difficult political tradeoffs. In the short tives. The operations of the NCPB have raised the run, reducing NCPB operations will hurt large- price of maize by fixing a price floor well above scale maize farmers in the North Rift. Over the market levels, with the result that Kenya's maize longer run, however, the confusion and uncer- prices are among the highest in Africa, without tainty spread throughout the maize value chain generating the expected supply response. It is by NCPB intervention have such a high cost that important to understand why. reform is most likely to reduce marketing (and production) costs enough to make maize farm- The government has intervened in maize mar- ing more competitive, even with lower prices. kets in ways that keep maize prices high and have little impact on price stability. Liberaliza- Relatively high world prices of maize due to tion opened maize markets to the private sec- structural change in the energy markets pro- tor and reduced marketing margins and prices. vides a unique political opportunity for NCPB However, the NCPB remains a major player in the to reduce its role in the market and move to market among medium- and large-scale farm- a more transparent, coordinated system with ers in the high potential maize zone of the Rift minimal dislocation to surplus maize farmers in Valley, where it raises prices and provides some Western Kenya. As a first step, NCPB could set degree of stabilization. Smallholders have little prices by using transparent rules for setting buy- interaction with NCPB; presently only 2 percent ing and selling prices for maize. This step would of smallholders sell to the cereals board. NCPB's require NCPB to move away from pan-seasonal maize market interventions are generally anti- buying and selling prices (prices that are con- poor, in the sense that they raise prices paid to stant throughout the marketing year), which large-scale farmers at the expense of consum- eliminate incentives for grain storage. As noted, ers--especially poor urban households and the price stability could also be enhanced through majority of poor rural households who are net the intra-regional grain trade, which could be buyers of maize. furthered by investing in market infrastructure, reducing trade restrictions and interventions, re- Marketing margins for maize are high owing to ducing nontariff barriers to trade, streamlining high transport costs, and prices continue to be customs procedures, and harmonizing quality, volatile and unpredictable. High prices are com- safety and phyto-sanitary standards with neigh- monly perceived to be the inevitable outcome of boring countries. numerous links in the marketing chain and the unscrupulous behavior of traders. Value chain Private storage could be encouraged by turning analyses show that although the value chain has some NCPB grain silos and go downs into stor- many links, transport costs account for the larg- age leasing operations. Additional storage facili- est share of the marketing margin, while traders' ties, coupled with better financing arrangements, margins are usually very competitive. could help the commercialized grain marketing system to weather downside price risk. These At the heart of future food policy issues in efforts could be combined with a warehouse Kenya is the question of how to maintain ad- receipt system to help farmers and traders get equate maize production incentives for spe- access to formal credit markets and would im- cific producers--the large-scale and small-scale prove the efficiency of the food marketing sys- farmers for whom maize is a viable crop for tem in general. To be successful, these systems commercialization--without taxing consumers must have: (i) an effective system of grades and December 2009 | Edition No. 1 18 Annexes standards in place; (ii) sufficient trust, integrity, processors, and the public sector should play an and quality control that there is essentially no important role in reducing these barriers and fa- default risk in using them; and (iii) regulatory cilitating their use through long-run investments procedures and oversight to ensure the integrity in grades and standards, credit market develop- of the system. ment, communication systems, market intelli- gence systems, regulations, and support for lo- Putting these reforms in place would open cally or regionally based commodity exchanges space for market-based risk management in- and insurance products. Most importantly, the struments through a commodity exchange with government can provide a predictable policy en- forward and futures markets. There are many vironment that does not destroy the incentives barriers to participation in these markets, es- for private individuals and firms to trade market- pecially for small-scale producers, traders, and based risk management instruments. December 2009 | Edition No. 1 19 Annexes Annex 2: Key Assumptions of the Growth Forecast Projections for 2010 are informed by global and domestic trends for the first three quarters of 2009. The global downturn will continue to impact the demand for exports and tourism in Kenya's main source markets in Europe. The impacts of the protracted drought are expected to phase out in the first half of 2010, signaling recovery for agriculture and greater reliability in energy and water supply. The main destination for Kenya's manufactures is the EAC and the larger COMESA markets. Sub-Saharan Africa is projected to grow at 4.1 percent in 2010, thus manufacturing can be expected to expand in line with regional growth and domestic demand. Agriculture. The rebound in agriculture is contingent on the extent of short rains in the 4th quarter of 2009 and favorable weather throughout 2010. The sector is expected to grow at around 2 percent in 2010 and onwards. Industry. Within industry, construction has been a significant engine of growth in recent years. The stimulus package with substantial investment in infrastructure should further sustain the momentum in the sector in 2010 and beyond. With favorable weather, electricity and water supply sectors should also be expected to rebound, which will in turn help manufacturing to recover during 2010. Thus, industry is expected to grow by over 4 percent per annum in 2010 while manufacturing will grow by about 3 percent. Services. The continued rebound in tourism as well as continued growth in wholesale and retail trade, trans- port and communications should lead to about 4 percent growth in the services sector in 2010. The External Sector. The balance of payments projections show that oil and fertilizer prices will remain stable at 2009 levels, and likewise for primary commodities such that no significant gains in terms of trade should be expected, particularly if oil prices stabilize at, or increase beyond, end-2009 levels (US$ 75/bar- rel). The current account is expected to stay close to 2009 levels (-6.6 percent of GDP) assuming that higher imports from oil will be compensated by an improved export performance. High Case Scenario. This assumes higher than average short rains in the last quarter of 2009 and normal weather in 2010, as well as a relatively fast global recovery. December 2009 | Edition No. 1 20 Annexes Annex 3: Economic Indicators Table 1: Kenya Macroeconomic Indicators 2008 2009 2010 National income and prices¹ Annual Growth Rates Real GDP (at constant prices) 1.7 2.5 3.5 Domestic Expenditures 1.8 4.2 4.2 Consumption 1.7 3.9 4.2 Investment 9.7 4.0 4.0 Exports of goods & services 3.6 3.3 5.8 Imports of goods & services 5.3 7.7 6.7 CPI change (period average) 26.2 10.2 5.0 GDP deflator change 13.1 12.5 5.0 Public (Fiscal) Sector² Percent of GDP Fiscal balance incl. grants -6.7 -5.0 -5.7 Total revenue and grants 21.6 23.5 24.2 Total expenditure and net lending 28.3 28.6 29.9 Current expenditure 21.8 20.3 20.4 Capital expenditure and net lending 6.5 8.3 9.5 External Sector³ US$ Millions Current Account Balance -2159 -2164 -2243 Current ac. balance (% of GDP) -7.1 -6.7 -6.7 Capital Account Balance 1680 2807 2702 ow. FDI (net) 153 454 450 Change in reserves (-=increase) 479 -643 -459 Foreign exchange reserves 3233 3862 4304 Other Annual Growth Rates Broad money (eop) 14.9 5.3 8.7 Sources: KNBS, Ministry of Finance, Central Bank, and WB estimates 1. Based on KNBS national accounts data for 2008, WB estimates for 2009 & 2010 2. Ministry of Finance data for 2008, and WB estimates for 2009 & 2010 3. Central Bank data for 2008 and WB estimates for 2009 & 2010 4. Central Bank data for 2008 and WB estimates for 2009 & 2011 December 2009 | Edition No. 1 21 Annexes Annex 3 contd. Table 2: Aggregate Demand 2005 2006 2007 2008 2009 2010 Growth rates at Constant 2001 Prices Government final consumption expenditure -0.8 1.5 7.6 3.7 4.0 4.1 Private final consumption expenditure 6.5 7.9 7.6 -0.4 3.8 4.2 Gross fixed capital formation 27.8 18.5 13.4 9.7 4.0 4.0 Gross domestic expenditure 6.4 9.3 9.1 1.8 4.2 4.2 Exports of goods and services 9.4 2.4 5.7 3.6 3.3 5.8 Imports of goods and services 14.9 17.8 11.1 5.3 7.7 6.7 Gross domestic product 5.9 6.3 7.1 1.7 2.5 3.5 Percent of GDP at Constant 2001 Prices Government final consumption expenditure 14.9 14.2 14.3 14.6 14.8 14.9 Private final consumption expenditure 77.6 78.8 79.1 77.5 78.5 79.1 Gross fixed capital formation 18.7 20.8 22.0 23.8 24.1 24.3 Gross domestic expenditure 110.0 113.1 115.1 115.3 117.2 118.0 Exports of goods and services 27.1 26.1 25.8 26.3 26.5 27.1 Imports of goods and services 33.7 37.3 38.7 40.1 42.1 43.4 Discrepancy ¹ -3.4 -1.8 -2.2 -1.5 -1.6 -1.6 Gross domestic product at market prices 100.0 100.0 100.0 100.0 100.0 100.0 Net exports -6.6 -11.2 -12.9 -13.8 -15.7 -16.4 Source: KNBS 1. Difference between GDP production approach and GDP expenditure approach December 2009 | Edition No. 1 22 Annexes Annex 3 contd. Table 3: Global Projections Year over Year Q4 over Q4 Projections Estimates Annual growth 2007 2008 2009 2010 2008 2009 2010 World output 5.2 3.0 -1.1 3.1 -0.1 0.8 3.2 Advanced economies 2.7 0.6 -3.4 1.3 -2.2 -1.3 1.7 US 2.1 0.4 -2.7 1.5 -1.9 -1.1 1.9 Euro area 2.7 0.7 -4.2 0.3 -1.7 -2.5 0.9 UK 2.6 0.7 -4.4 0.9 -1.8 -2.5 1.3 Other developed countries 4.7 1.6 -2.1 2.6 -2.7 1.8 2.6 Emerging & developing countries 8.3 6.0 1.7 5.1 3.3 5.8 5.5 Africa 6.3 5.2 1.7 4.0 .... .... .... Sub-Saharan Africa 7.0 5.5 1.3 4.1 .... .... .... Developing Asia 10.6 7.6 6.2 7.3 5.5 7.7 7.8 China 13.0 9.0 8.5 9.0 6.9 10.1 9.2 India 9.4 7.3 5.4 6.4 4.8 5.1 7.0 ME 6.2 5.4 2.0 4.2 .... .... .... World trade volume (goods & services) 7.3 3.6 -11.9 2.5 .... .... .... Commodity prices 13.5 172.1 117.6 134.6 .... .... .... Oil 10.7 36.4 -36.6 24.3 .... .... .... Non-fuel 14.1 7.5 -20.3 2.4 .... .... .... Source: World Economic Outlook, IMF, October 2009 .... means data not available December 2009 | Edition No. 1 23 Annexes Annex 3 contd. Table 4: Sub-Saharan Africa Selected Indicators 2005 2006 2007 2008 2009 2010 Annual Growth Real GDP 6.2 6.4 6.9 5.5 1.1 4.1 Oil exporters 7.6 7.4 9.2 7.0 1.9 5.5 Oil importers 5.5 5.9 5.7 4.7 0.8 3.3 Real non-oil GDP 6.4 7.9 8.0 6.3 2.0 4.2 Consumer Price Averages 8.9 7.3 7.1 11.6 10.5 7.2 Oil exporters 14.8 8.1 5.6 10.5 10.6 8.9 Oil importers 6.2 6.9 7.8 12.1 10.4 6.4 Per Capita GDP 4.1 4.2 4.8 3.1 -0.9 1.9 Percent of GDP Exports of Goods and Services 36.6 37.6 38.9 41.0 31.2 33.5 Imports of Goods and Services 33.6 33.1 36.2 38.2 34.2 34.6 Gross domestic saving 22.8 25.5 24.5 25.0 19.3 21.5 Gross domestic investment 19.9 21.1 22.0 22.2 22.4 22.7 Fiscal Balance (Including grants) 1.8 4.8 1.2 1.3 -4.8 -2.4 Oil exporters 8.8 11.3 3.6 6.3 -5.9 1.5 Oil importers -1.3 1.5 -0.2 -2.0 -4.2 -4.7 Current Account (Including grants) -0.4 4.1 1.1 1.0 -3.1 -2.1 Oil exporters 7.2 21.2 14.4 14.0 1.6 7.9 Oil importers -3.9 -4.9 -6.2 -7.6 -5.6 -7.9 Reserves (months of imports) 4.7 5.9 6.0 5.3 5.8 5.5 Oil price (US$ a barrel) 53.4 64.3 71.1 97.0 61.5 76.5 GDP growth in SSA trade partners (in percent) 3.7 4.1 4.1 1.9 -1.8 2.2 GDP growth in SSA 6.2 6.6 7.0 5.5 1.3 4.1 Source: Regional Economic Outlook: Sub-Saharan Africa, IMF, October 2009 December 2009 | Edition No. 1 24