Forum on Budget Policy Statement 2016 and Debt Management Strategy

IBP Kenya and Kenya Association of Manufacturers (KAM) held a forum today, February 25, 2016 to bring out some of the key issues that are in the BPS 2016 and the Debt Management Strategy Paper.

KEY ISSUES

• While the national budget is not falling, as some have claimed, there is an attempt to restrain expenditure growth and begin to reduce the deficit. BPS 2016 proposes an 8 percent increase in expenditure, 14 percent increase in revenue and a 6 percent decrease in the deficit from the current year (2015/16).
• There is a slight decline in the funding for ministries, departments and agencies from Ksh 1.505 to 1.490 trillion.  This reflects a decline in development spending at ministry level of roughly Ksh 64 billion, while recurrent expenditure is rising by 49 billion.

• This reflects a declining share of the budget going to the energy/infrastructure sector and an increasing share for governance, environment and education. BPS 2016 proposes to decrease the share of the budget allocated for the energy/infrastructure sector from 27 to 25 percent of the total budget. There is an equally large increase in governance, justice, and law and order sectors from 10 to 12 percent. This is mainly driven by a significant increase (352 percent) in the allocation to the Independent Electoral and Boundaries Commission (IEBC). However, there is no clear justification for these changes in the narrative section.

• Funding for counties has not been “cut” as has been suggested in the media, but it is growing more slowly than national funding. Our analysis shows that the national share of shareable revenue is to increase by 12.5%, while counties will only rise by 7.9%.  This is much less than the 15% increase proposed by the Commission on Revenue Allocation.  No justification is provided for funding counties less than CRA recommends or for national revenue growing faster than county revenue.

• The National Treasury proposes maintaining all the conditional grants transferred to counties in 2015/16, with small increases for Level 5 hospitals and the road maintenance grant and a small decrease for maternal health. They also propose a small additional grant (Ksh 200 million) to improve emergency services in Tana River and Lamu Counties due to their proximity to Somalia and terror attacks in the region. It is not clear why maternal health is being cut or why other areas affected by insecurity are not included in this new emergency services grant.

• The BPS 2016 does not give the criteria for distributing conditional grants. The distribution of funds across counties should respond to equity concerns and different needs across the country, and the BPS should contain an explanation of distributional criteria and a justification for the same.

• Public Participation. We applaud the National Treasury for inviting the general public to comment on the draft BPS early February 2016. However, the final BPS 2016 does not show how public input led to revisions between the draft and final BPS. The annex contained in the BPS 2016 only provides responses to public concerns at sector level that appear not to have led to any changes in the BPS. The impression created is that public concerns have already been addressed elsewhere and that public input does not have an impact on budget decisions.
• The Debt Management Strategy Paper proposes to increase foreign borrowing and increase the share of treasury bonds in domestic borrowing.  This is intended to reduce “refinancing risk” by extending the maturity of debt and reducing the overall interest rate.   However, it will introduce additional exchange rate risk as the share of external borrowing rises.  Given the challenges with the Eurobond, it is essential, as Treasury recognizes, that government improve communication and transparency around external funding.

Issues related to the Manufacturing Sector

1. The government needs to ensure that there is Macroeconomic Stability.  Fiscal stability is a prerequisite to achieving sustained long-term growth. Manufacturing can only thrive in an environment of macroeconomic stability that encourages long-term planning. For example, high fiscal deficits have an impact on manufacturing through higher taxation, higher borrowing costs and greater exchange rate risk. Furthermore, high debt to GDP levels risk crowding-out the private sector in domestic credit markets. The government should work towards stabilizing the debt-GDP ratio.
2. VAT Refunds allocations in the Budget should account for backlogs. Long and persistent delays in VAT refunds create two classes of export companies for tax purposes:  SEZ/EPZ exporters vs main economy exporters and become a drag on the export appetite of the latter companies. They also Increase the tax burden on law-abiding tax payers often due to difficulties to raise legitimate revenue from tax evaders and are contradictory with general policy framework.  Government transparency & reporting on VAT refunds needs improvement to promote trust and accountability and Treasury allocations for VAT refunds should at least to account for outstanding claims and should revise VAT refund allocations so as to allow for the clearing of the backlog.
3. Business Regulatory Reforms both at National and County levels. The Focus on the 6 of the 10 doing business indices is a good move in improving the ranking of Kenya in Ease of Doing Business Index but we need to distinguish that role from the licensing reforms for business process done in Kenya in the year 2006-2007. The BPS in sections 124 and 125 of the BPS indeed talks about streamlining business regulations from national to county level but within and through the interagency business environment delivery unit and therefore there is no clarity on how this initiative can be built on harmonisation and streamlining of business regulation within the context of the previous comprehensive reforms by the Government. The country needs an independent programme that looks at streamlining the business regulatory at both national and county level and in an environment outside of the ease of doing business index. Kenya needs to comprehensively look at regulatory burden to business and streamline towards creating consistency, efficiency and predictability. This would enhance the Government’s tax base through enhanced compliance and enhanced growth of industry.
4. Sector Allocation. The allocation to the General Economic and Commerce affairs sector of 68 billion in 2016, 70 billion in 2017 and 74.1 billion in 2018 does not underpin importance of the sector as a priority to government. This sector needs to be funded adequately so that the industrial process can be enhanced. Government needs to allocate more funds on the following;

1. Research and Development funds to KIRDI
2. Strengthening of Development Finance Institutions (DFIs) to increase access to credit.
3. Developing a manufacturing policy for Kenya.
4. Developing an Industry Subcontracting Fund
5. Technology transfers programme

1. Public Private Partnerships. Under manufacturing, focus is on Special Zones (SEZs) such as Industrial parks, SME parks, and Technology parks. While these are necessary, they are not a sufficient condition for the growth of the manufacturing. A development fund for industry as called for by the Kenya Industrial Transformation Programme is necessary to see how the local manufacturing can be incentivized to undertake public private partnerships.
2. Foreign Trade Policy Impact on Industrialization. There should be a strong emphasis by Kenya to look at our foreign international trade policy and see if it supports industry with the increasing importation of subsidised products to Kenya. The Ministry should do a thorough analysis of the international trade regime and see whether all agreements done with other countries have a developmental impact on Kenya and to what extent. The KITP does not provide a relook on our foreign trade policies as part of Kenya’s Industrial development process. The United Nations Economic Report for Africa, 2015 identified inconsistencies between national trade and industrial policies as impediments to industrial growth and development. Kenya’s trade and investment relationship with other countries is very important in Kenya’s industrial development process.
3. SMEs. The focus on SMEs is also necessary but not sufficiently covered as the Incentives offered are not enough to support the local manufacturing. SMEs need subcontracting incentives in order to grow.  Financing for SMEs is also not easy as the cost of credit is high in Kenya. The ministry should think of ways of revamping development financing institutions (DFIs) like ICDC and Kenya industrial Estates. We need to focus on the development of these institutions to provide adequate affordable funding to SMEs in the manufacturing sector.
4. Research and Development (R&D). We need to enhance the allocations to KIRDI as industry needs R&D outputs to be actualised. Linkages should be established between KIRDI, property rights institutions etc. Kenya needs to invest heavily on research and development and in ensuring the outputs are implemented by the industry.