Short-termism poses threat to Treasury’s medium-term debt strategy

Kenya’s debt position has increasingly been top on the minds of wananchi. Indeed, the debate on the country’s public borrowing sustainability has split public opinion.

While the Treasury, in its latest Medium Term Debt Strategy (MTDS) paper, has insisted that (and largely based on a debt sustainability analysis conducted in February 2017 by the International Monetary Fund (IMF) Kenya faces a low risk of debt distress, a section of the street (comprising ordinary folks, Kenyans on Twitter, academics, public intellectuals and analysts) hold a contrary opinion.

In my view, and borrowing from Terry Ryan and Isaya Maana’s academic paper An Assessment of Kenya’s Public Debt Dynamics and Sustainability the concept of manageable borrowing has evolved; from just meeting a group of quantitative indicators and thresholds, as advanced by the IMF, to a stage where it is considered as a process.

Essentially, it’s a call for quantitative and qualitative sustainability assessment. The latter, as the paper puts it, the process calls for actions and functions aimed at public debt management.

At a minimum level, the process aims at identifying aspects that are critical to a debt sustainability process, namely existence of a legal framework and institutional structure for its management, a framework for coordination among key players and communication of loans management activities, market development structure, and a staffing with requisite skills and necessary analytical tools.

Qualitatively, you could easily deduce that there is some evidence of unsustainability. But this is not the thrust of this article. Rather, today I would like to report that, quantitatively, Kenya’s rising public debt concerns have attenuated investors’ view of its long-term local currency credit worthiness. And you just need to look at the domestic debt primary auctions.

In 2013, all primary sales of long-term debt securities received bids in excess of 100 percent, indicating strong demand. In fact, between 2013 and 2016, bids stood at 112 percent in absolute terms.

Long-term debt, in this case, refers to maturities above five years. In 2017, demand began to slacken with bids coming in at 76 percent. In the first nine of months of 2018, we are talking of 56 percent—and is probably unlikely to surpass 2017 levels.

This tenuity in the demand for long-term debt may not bode well with the National Treasury’s proposed medium term debt strategy. Faced with elevated maturity risks and an increased public scrutiny of debt activities, the National Treasury, in the MTDS paper, modelled four of what it calls alternative debt management strategies.

The first strategy entails a reduction in external commercial borrowing over the medium term while at the same time lengthening the maturity of domestic local currency debt through issuance of more longer-tenored maturities.

The second entails ramping up domestic borrowing by increasing the amounts to be issued in the domestic market. The third involves increased issuance of domestic medium to long term debt; and the last entails accelerated borrowing from international capital markets or other commercial sources, while still maintaining visibility in the domestic scene.

Eventually, after a cost-risk analysis of the four strategies, the Treasury has proposed to adopt the first one—which entails issuance of more longer-tenored local currency debt—as the official medium term strategy (and medium term here describes fiscal year 2018/19 through to 2020/21). It now appears that Treasury’s strategy proposal could run into headwinds as investors continue to demonstrate a penchant for short-termism.

Indeed, demand for debt with maturity below five years remains strong with a performance rate of nearly 200 percent. Effectively, to ride the headwinds and successfully execute this strategy, the Treasury might have to premiumise its offerings beyond current levels.