Kenya’s middle income status creates challenges, opportunities

From left: Kenya National Bureau of Statistics board chairman Terry Ryan, Treasury secretary Henry Rotich and Planning secretary Anne Waiguru during the launch of the rebased economic data in Nairobi in September. PHOTO | FILE

What you need to know:

  • As a middle-income nation, Kenya has acquired new economic firepower that if backed with the right policies and good governance could propel it to the desired newly industrialised country.
  • Economists, however, say the danger of stagnation is high for Kenya, especially because the cross-over to middle-income status did not come as a result of sustained growth over time but was largely the product of fresh computation of economic data. 

After computing its national economic data afresh three months ago, Kenya is closing 2014 at a critical point that economists say could determine the country’s future.

East Africa’s largest economy is now in the league of the world’s lower middle-income nations, having crossed the United Nations’ $1,045 gross domestic product (GDP) per capita threshold with September’s fresh computation of data, also known as rebasing.

As a middle-income nation, Kenya has acquired new economic firepower that if backed with the right policies and good governance could propel it to the desired newly industrialised country status.

But for the majority of Kenyans, the feel good factor of leaving the club of the world’s poorest nations may have come and evaporated so soon — having left no tangible mark in their lives.

There is also the possibility that the country could get stuck in the bottom end the of middle-income club becoming Africa’s first victim of the middle-income trap.

Economists say the danger of stagnation is high for Kenya, especially because the cross-over to middle-income status did not come as a result of sustained growth over time but was largely the product of fresh computation of economic data. 

“Kenya barely breached the threshold of the lower middle-income country classification and only did so with the help of the instant growth effect of rebasing,” said Apurva Sanghi, the World Bank’s lead economist for Kenya.

Mr Sanghi, however, reckons that Kenya stands a better chance of reaping huge economic dividends from ongoing investment in infrastructure.

“At 20 per cent, Kenya’s investment to GDP ratio is less than the minimum 25 per cent benchmark in other (lower middle-income) countries such as Sri Lanka, Vietnam and Indonesia,” he said.

Consultancy firm PwC recently released a report indicating that “improving Kenya’s infrastructure to the level of other middle-income countries would boost annual growth by more than three percentage points”.

A large portion of the investments are earmarked for energy, mining, telecoms, real estate, water, transport and logistics sectors. The aim is to transform Kenya into a newly industrialised economy by 2030.

East Africa’s largest economy has, however, continued to miss the 7 per cent a year growth rate that guarantees it a doubling of the output every decade – that is required to realise that goal.

Kenya last grew at the rate of more than seven per cent in 2007 but a weakening of key tourism, tea and coffee sectors has dampened this year’s prospects.

The World Bank, which monitors economic growth across the globe, has recently cast the spotlight on countries that successfully moved from low to middle-income status, thanks to rapid economic growth only to get stuck there having fallen into the “middle-income trap”.

Treacherous road

The road has indeed been treacherous for many of Kenya’s predecessors such as Indonesia, which joined the club of middle-income countries in 1996, and slid back to low-income ranks in the wake of the 1997/1998 Asian financial crisis, drought and political tension.

Indonesia rejoined the middle-income league six years later but has stagnated at the lower end of the stratum, leaving it in the middle-income trap.

Opinion is divided as to whether growth rates inevitably slow down as countries reach middle-income status but World Bank economists reckon that the trap is non-existent, citing East Asian nations that have successfully moved on to become rich economies.

“The key here is to have the right policies in place and back that up with good governance,” Mr Sanghi said.

It remains to be seen whether Kenya will evade the trap but economists say the country must take key policy actions that are critical for robust growth that will propel it to the desired middle-income status.

The list of actions includes transforming the agriculture-based economy into an industrial one through investment in value addition, stronger exports growth backed by an industrial base, low inflation and reduction of inequality and the dependency ratio that now stands among the world’s highest.

Human capital

Three World Bank economists — Ha Nguyen, Maya Eden and David Bulman — have recently underscored investment in human capital as critical to the attainment of productivity levels that are required to keep the growth engine running.

“The quality of education is more important at middle-high income levels, which is consistent with the view that transition from middle to high income must be fuelled by innovation-led growth,” they say.

This means that aside from the mega infrastructure investments, Kenya must spend more and better on its wobbly education system that has been more recently been weakened by acute lack of teachers and equipment even as the number of learners continues to grow rapidly.

Higher national savings and low external debt are the other key enablers in the journey to becoming an industrialised nation.

This means the Treasury mandarins must strike a delicate balance between ongoing use of debt to finance the mega infrastructure projects and keeping external debt below the recommended threshold.

Treasury secretary Henry Rotich appeared to go against this counsel when he caused Parliament to raise Kenya’s external debt ceiling to Sh2.5 trillion from Sh1.2 trillion for the new borrowing headroom he needs to finance a 10,000-km road network, the standard gauge railway and the Lapsset transport corridor.

Mr Rotich can, however, take comfort in the fact that the IMF has said in its latest assessment that Kenya’s debt is manageable even as it warned that a continued rise in debt load against weak export earnings growth could erode the economy’s vibrancy.

Kenya’s current account (exports minus imports) deficit stands at about eight per cent of GDP — a level the IMF says is still within manageable limits.

The World Bank has put out a list of factors that are significant for growth in a middle income economy. These include the Gini Coefficient (a measure of income distribution within an economy), the fertility rate, lowering agriculture’s share of GDP and raising trade’s share.

The United Nations Economic Commission for Africa (Uneca) early this month said Kenya needs to increase access to health, education, employment and income in order to attain a sustainable, inclusive growth.

The rebasing of Kenya’s economy increased its total size by 25 per cent, pushing it three places up to become Africa’s ninth-largest economy.

Kenya GDP is now valued at Sh4.75 trillion ($53.2 billion) while its GDP per capita — (GDP divided by population) — stands at Sh116,037 ($1,246), just above the World Bank’s $1,045 threshold for lower middle-income countries.

The World Bank has classified countries in four groups based on the size of their economies. Those with GDP per capita of less than $1,045 fall in the low-income category, the lower middle-income group have a range of between $1,045 to $4,125 per capital GDP, the upper middle-income fall between $4,126 to $12,745 while any country with a GDP per capita of more than $12,745 falls in the high-income class.

Economists say African nations, including Kenya, could benefit from a demographic dividend if it manages to create more jobs and build a pool of working-age population.

Mr Sanghi reckons that the recent establishment of 47 devolved units (counties) offers Kenya a solid path towards boosting growth and reducing inequality. The oil finds in Turkana basin could also be a growth enabler, if properly managed, he says.

Besides the infrastructure hardware, Kenya is seeking to attract Sh150 billion a year in foreign direct investment (FDI) for growth and jobs spin-offs.

Cheap electricity from geothermal wells and hassle-free business registration are among the incentives the State is dangling at investors. Kenya’s ability to attract FDI inflows has lagged behind its neighbours such as Rwanda, which is racing to model its economy on Singapore’s.

Foreign investment is the bedrock on which Singapore — with a per capita income of about $61,000 — rose to become a First World nation.

The Asian nation is home to 8,000 multinationals with 80 per cent of investments in its manufacturing sector coming from foreign investors.

Policymakers in Kenya are betting on foreign inflows to shore up manufacturing’s share of GDP currently at 10.4 per cent.

Mr Sanghi says Kenya has sufficient headroom to increase its investment in infrastructure and capital goods for solid growth.

Middle-income nations, he says, are often prone to the stagnation trap when additional investment in physical projects no longer generates marginal returns to the economy. In such cases, innovation and technology-driven services offer the best escape window.

Additional infrastructure

Kenya’s case, he says, is different because the economy could do better with additional infrastructure for increased connectivity and activity.

“In the short to medium term, there is still a fair bit of such catch-up growth that Kenya can benefit from, in particular, through properly designed and effectively implemented infrastructure,” Mr Sanghi said.

The danger of falling in the middle-income trap comes when a country fails to move from growth strategies that are effective at low-income levels to those that are effective at high-income levels.

This is because the determinants of growth at low-income levels differ from those at high-income levels.

“Clinging onto past successful policies for too long could be the Achilles heels,” Mr Sanghi warns.

World Bank economists say that because low-income nations have low levels of capital, any accumulation of equipment and machinery is likely to drive growth. But when a nation rises to a middle-income status, the rate of return on investment in such capital diminishes, calling for new policy actions.

“To maintain growth, countries have to turn to other sources: better technologies, better management practices, and research and innovation,” the research paper says.

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