INTERNATIONAL DEVELOPMENT ASSOCIATION INTERNATIONAL MONETARY FUND KENYA Joint World Bank-IMF Debt Sustainability Analysis April 2021 Prepared Jointly by the staffs of the International Development Association (IDA) and the International Monetary Fund (IMF) Approved by Marcello Estevão (IDA), Annalisa Fedelino and Martin Kaufman (IMF) Joint Bank-Fund Debt Sustainability Analysis Risk of external debt distress High Overall risk of debt distress High Granularity in the risk rating Sustainable Application of judgment No Kenya’s debt is sustainable, and its debt dynamics will be bolstered by the fiscal consolidation envisaged under the IMF supported program. While planned fiscal consolidation will help address debt vulnerabilities exacerbated by the global COVID-19 shock, the risk of debt distress continues to be assessed as high. 1 High deficits—from the past and generated by the current shock—combined with the sharp decline in export and economic growth caused by the pandemic, have deteriorated solvency and liquidity debt indicators, particularly when measured against Kenya’s current debt-carrying capacity (evaluated as medium). 2 Kenya’s debt indicators will improve as fiscal consolidation progresses and exports and output recover from the global shock, although improvement is particularly gradual for indicators in terms of exports. Sustained fiscal consolidation would stabilize debt towards the end of the program and bring it to more prudent levels over the medium term while securing resources to support social spending. Kenya has generally enjoyed strong access to international capital markets, and staff projections assume limited reliance on market financing over the coming three years and roll-over of existing Eurobonds. The DSA suggests that Kenya is susceptible to export and exchange rate shocks; more prolonged and protracted shocks to the economy would also present downside risks to the debt outlook. 1 Kenya was first assessed as being at high risk of debt distress in May 2020. IMF Country Report No. 20/156 (May 2020) contains the previous DSA conducted jointly with the World Bank. 2 The Composite Indicator for Kenya is estimated at 3.01, which translates into a Medium Debt-Carrying Capacity Assessment, revised from Strong. It is based on the 2020 October WEO and CPIA vintage released on July 2020. PUBLIC DEBT COVERAGE 1. Kenya’s public debt includes obligations of the central government. Debt data include both external and domestic obligations and guarantees. The external DSA covers external debt of the central government and the central bank, as well as of the private sector; and stress tests apply to public and publicly guaranteed (PPG) debt. The public DSA covers both external and domestic debt incurred or guaranteed by the central government, and public domestic debt consists of central government debt. In this analysis, total public debt refers to the sum of public domestic and public external debt, however, it does not cover the entire public sector such as extra- budgetary units and county governments. 3 Debt coverage excludes legacy debt of the pre- devolution county governments (whose size is modest).4 In comparison to peers, Kenya maintains a high standard of debt transparency. The external public debt register includes granular data disclosure, which could be more regularly updated.5 The DSA uses a currency-based definition of external debt, as nonresidents’ direct participation in the domestic debt market, at about one percent of total outstanding government securities, is not significant. 2. The DSA includes contingent liability stress tests for SOEs, PPPs, and a financial market shock. In particular, the DSA incorporates: • 3.1 percent of GDP to capture non-guaranteed debt of state-owned enterprises (SOEs) and Public Private Partnerships (PPPs). Notably, the baseline already incorporates the 0.3 percent of GDP assumed for SOE support as well as amounts borrowed directly by the Kenyan government and on-lent to SOEs.6 • 5 percent of GDP for a loan default financial market shock—a value that exceeds the existing stock of financial sector NPLs of about 4 percent of GDP. BACKGROUND ON DEBT 3. Kenya’s overall public debt has increased in recent years. Gross public debt increased from 48.6 percent of GDP at end-2015 to an estimated 69 percent of GDP at end-2020, reflecting high deficits, partly driven by past spending on large infrastructure projects, and in 2020 by the COVID-19 global shock. About half of Kenya’s public debt is owed to external creditors. 4. Most of Kenya’s external public debt remains on concessional terms. Nominal PPG external debt at end-2020 amounted to 35.6 percent of GDP, about four percentage points higher than at end-2019. 3 County governments have not been allowed to borrow without government guarantee since 2010 and borrowing requires National Treasury (NT) authorization while extra-budgetary units face no such constraint. 4 A new Constitution was approved by referendum in 2010, devolving substantial powers to 47 new county governments. 5 Debt statistics bulletins with PPG coverage and debt management strategies are regularly published. Also, the Budget Policy Statement publishes contingent liabilities. 6 This includes the external debt associated with the Standard Gauge Railway (SGR). 2 Kenya: Public Debt Coverage Subsectors of the public sector Subsectors Covered 1 Central government X 2 State and local government 3 Other elements in the general government 4 o/w: Social security fund X 5 o/w: Extra budgetary funds (EBFs) 6 Guarantees (to other entities in the public and private sector, including to SOEs) X 7 Central bank (borrowed on behalf of the government) X 8 Non-guaranteed SOE debt The central government plus social security, central bank, government- 1 The country's coverage of public debt guaranteed debt Default Used for the analysis 2 Other elements of the general government not captured in 1. 0 percent of GDP 0 3 SoE's debt (guaranteed and not guaranteed by the government) 1/ 2 percent of GDP 2 4 PPP 35 percent of PPP stock 1.1 5 Financial market (the default value of 5 percent of GDP is the minimum value) 5 percent of GDP 5 Total (2+3+4+5) (in percent of GDP) 8.1 1/ The default shock of 2% of GDP will be triggered for countries whose government-guaranteed debt is not fully captured under the country's public debt definition (1.). If it is already included in the government debt (1.) and risks associated with SoE's debt not guaranteed by the government is assessed to be negligible, a country team may reduce this to 0%. • At end-2020, multilateral creditors accounted for about 40 percent of external debt, while debt from bilateral creditors represented close to 33 percent. Of Kenya’s bilateral debt, about 63 percent is owed to non-Paris Club members, mainly loans from China to finance construction of the Standard Gauge Railway (SGR) project. • External commercial debt decreased in 2020, as the authorities prioritized concessional borrowing during the pandemic after Kenya: Maturity Profile of Eurobonds several years of reliable access to (Millions of U.S.$) global financial markets. 2500 Commercial debt (mainly Eurobonds 2000 June 2014 and syndicated loans) accounted for about 26 percent of external public 1500 May 2019 debt at end-2020—modestly above 1000 Feb. 2018 May 2019 Feb. 2018 its share at end-2015. Eurobonds 500 account for 70 percent of commercial debt (US$6.1 billion), 0 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 2035 2036 2037 2038 2039 2040 2041 2042 2043 2044 2045 2046 2047 2048 while syndicated loans represent 27 percent (about $2.5 billion). Kenya: External Public Debt 2015 2016 2017 2018 2019 2020 US$bn Share US$bn Share US$bn Share US$bn Share US$bn Share US$bn Share Multilateral creditors 7.3 46.5 7.6 41.2 8.2 35.8 8.6 32.1 10.2 33.4 13.7 39.7 Bilateral creditors 4.7 29.8 6.3 33.8 7.6 33.3 8.8 32.8 10.1 33.0 11.3 32.7 Commercial creditors 3.6 22.7 4.5 24.2 6.9 30.1 9.2 34.4 10.2 33.1 8.9 25.9 Others (supplier credits) 0.2 1.0 0.1 0.8 0.2 0.7 0.2 0.6 0.2 0.5 0.6 1.7 Total 15.8 100 18.5 100 22.8 100 26.7 100 30.7 100 34.5 100 Source: Kenyan National Treasury. 3 5. Kenya’s domestic public debt reached 33 percent of GDP at end-2020. Domestic debt is issued mostly in the form of Treasury bonds (about 70 percent of the total stock) and Treasury bills. The 91-day, 182-day, and 364-day average interest rates were 6.9 percent, 7.4 percent and 8.3 percent respectively in December 2020. The average time to maturity for government domestic debt securities increased from 5¾ years at end-2019 to 7.9 years at end-2020, as the authorities successfully implemented their strategy to lengthen the maturity profile of domestic debt. About half of government domestic debt securities are held by commercial banks, followed by pension funds. UNDERLYING ASSUMPTIONS 6. Under the baseline scenario, solid growth is expected over the medium term. Despite a slowdown in 2020 driven by the global COVID-19 shock, medium-term growth prospects remain favorable and broadly in line with past performance. In 2021 the recovery will be driven by manufacturing and services, particularly education, transportation and trade (wholesale and retail)—activities that have recently rebounded after being particularly affected by the lockdowns implemented to address the health crisis. Estimated growth for 2021 is significantly affected by base effects, including the methodological approach that better captured the impact of school closures and their reopening; non-education growth is in line with the historical trend as some sectors show healthy recovery while others still face challenges. The expectation under the baseline is that, after this rebound from the COVID19 shock, the economy will settle at its potential growth (roughly 6 percent) over the medium to long term. 7 Medium-term growth is supported by the reform agenda envisaged under the proposed EFF/ECF program, which should underpin a healthy investment rate, particularly private investment, as well as the favorable prospects for external demand propelling exports. Exports of goods and services are projected to reach 13.3 percent of GDP in 2025, broadly the same share as observed in 2018.8 Inflation is expected to remain close to the middle of the authorities’ target range in the near and medium term. 7 For comparison, the DSF published at the time of the May RCF, which did not reflect the assumption of IMF program engagement as under the current EFF/ECF arrangements, assumed a long-term growth rate of 5.8 percent. 8 See the External Sector Assessment for a discussion on export performance and longer-term competitiveness challenges. 4 Kenya: Selected Macroeconomic Indicators 2013 2014 2015 2016 2017 2018 2019 2020 Actual Prel. Real GDP growth (percent) 5.9 5.4 5.7 5.9 4.8 6.3 5.4 -0.1 CPI inflation, average (percent) 5.7 6.9 6.6 6.3 8.0 4.7 5.2 5.3 CPI inflation, eop (percent) 7.1 6.0 8.0 6.3 4.5 5.7 5.8 5.6 Current account balance (percent of GDP) -8.8 -10.4 -6.9 -5.8 -7.2 -5.7 -5.8 -4.8 Overall fiscal balance (percent of GDP) 1 -5.2 -6.1 -8.4 -7.4 -9.1 -7.4 -7.7 -7.8 Gross international reserves (in billions of US$) 6.4 8.0 7.5 7.5 7.1 8.1 9.1 8.3 Gross international reserves (months of imports) 3.8 5.4 5.6 4.7 4.3 4.8 6.1 4.7 Total public debt (gross, percent of GDP) 1 41.1 46.8 47.9 53.5 57.4 59.3 62.1 65.9 Private investment (percent of GDP) 14.3 17.2 15.1 9.0 9.7 8.6 8.0 7.0 Credit to the private sector (y/y growth, percent) 20.1 22.2 17.3 4.4 2.5 2.4 7.1 7.7 Sources: Kenyan authorities and IMF staff estimates and projections. 1 Fiscal years (e.g., 2020 refers to FY 2019/20). 7. The fiscal deficit reached 7.8 percent of GDP in 2019/20, 1.2 percentage points less than the deficit approved in the supplemental budget. Tax revenues declined to 13.6 percent of GDP in 2019/20—reflecting the economic slowdown and policy measures to address the COVID-19 shock, but also the gradual downward trend observed since 2013/14. Kenya’s revenue collection remains in line with the regional average. The decline in the deficit since 2016/17 has been mainly achieved through spending cuts to both current outlays and development spending. With strong adjustment under the proposed program, Kenya would reach the average debt- stabilizing primary deficit, estimated at 1.2 percent of GDP, in 2023; over the medium term the overall deficit is expected to decline and stay below 4 percent of GDP, with the primary surplus at 0.5 percent of GDP. In 2021 a significant share of financing is expected to come in the form of concessional and semi-concessional borrowing, including from the IMF and other multilaterals; financing from commercial lenders is estimated at $1.1 billion as part of the authorities plan’ to limit reliance on external commercial borrowing in the coming years to reduce debt-related vulnerabilities. Having generally enjoyed strong access to the international capital markets, the authorities are also considering debt management operations if market conditions are favorable; debt management operations are not reflected in the baseline. Kenya is also expected to tap global capital markets to roll over Eurobonds as they mature. Kenya: Selected Macroeconomic Assumptions 2017 2018 2019 2020 2021 Long-term 1/ Real GDP Growth Current DSA 4.8 6.3 5.4 -0.1 7.6 6.0 Previous DSA (May 2020) 4.8 6.3 5.4 0.8 5.5 5.8 Primary Fiscal Deficit (percent of GDP) Current DSA 4.5 3.7 3.6 4.1 3.7 -1.0 Previous DSA (May 2020) 4.5 3.7 4.0 4.1 3.1 0.3 Non-interest Current Account (percent of GDP) Current DSA 5.0 4.1 3.8 2.8 3.5 3.6 Previous DSA (May 2020) 5.0 3.5 2.9 2.9 2.8 2.8 Source: IMF staff estimates. 1/ Average for 2027-41. 5 8. The current account deficit amounted to 4.8 percent of GDP in 2020—one percentage point lower than in 2019. The current account performance was supported by resilient exports— tea and horticulture—and lower global energy prices; tourism receipts contracted on account of the COVID-19 crisis, while remittances performed strongly. Over the medium term, staff projects a stable current account deficit, supported by exports recovering from the COVID-19 shock and moderate import growth as the pace of development expenditure, which has a high import content, stabilizes. Under the baseline the current account deficit is expected to be financed by a diversified set of sources, including FDI and financial and non-financial corporate borrowing. 9. The realism tools flag some optimism compared to historical performance, but staff is of the view that the projections are reasonable (Figure 4). While protecting social spending, the baseline scenario assumes an improvement of the primary balance of 3.7 percentage points of GDP over the next three years, which falls in the top quartile of the distribution for LICs. Staff is of the view that this is realistic and in line with the authorities’ plan for fiscal consolidation under the program as set out in the 2021 Budget Policy Statement (BPS). The authorities’ commitment to fiscal consolidation, including actions taken during the pandemic to broaden the tax revenue base and identify offsets to compensate for COVID-related expenditures, provide assurances that the fiscal adjustment under the program is achievable (see ¶19). The global and domestic recovery from the COVID shock and base effects associated with the crisis, including the methodological approach that better captured the impact of school closures and their reopening, substantiate the near-term growth trajectory during planned fiscal consolidation. Export growth is projected to be slightly higher than the recent past, which is justified as exports recover from Kenya’s early 2019 drought and the 2020 global shock. By 2025, exports of goods and services are projected to return to a similar level as the share of GDP observed in 2018, supported by Kenya’s improving business environment, key infrastructure projects coming to completion, large potential in a range of agricultural products, and the Big 4 Agenda push to stimulate manufacturing with a strong export emphasis. In the outer years, it is assumed that Kenya will continue to depend on concessional financing as part of a continuing commitment to reduce debt-related vulnerabilities. 6 Kenya: Summary Table of Projected External Borrowing Program from April 1, 2021 to June 30, 2022 Volume of new debt PV of new debt 1/ PPG external debt April 2021 - June 2022 April 2021 - June 2022 (program purposes) USD million Percent USD million Percent By sources of debt financing 12,376 100 10,342 100 Concessional debt, of which 4,765 39 2,787 27 Multilateral debt 2,420 20 1,451 14 Bilateral debt 2,345 19 1,336 13 Other 0 0 0 0 Non-concessional debt, of which 2,611 21 2,555 25 Semi-concessional 282 2 226 2 Commercial terms 2,329 19 2,329 23 Debt for Debt Management Operations (Non-Concessional) 5,000 40 5,000 48 By Creditor Type 12,376 100 10,342 100 Multilateral 2,702 22 1,677 16 Bilateral - Paris Club 579 5 343 3 Bilateral - Non-Paris Club 1,766 14 993 10 Private 2,329 19 2,329 23 Private for Debt Management Operations 5,000 40 5,000 48 Uses of debt financing 12,376 100 10,342 100 Infrastructure 4,295 35 3,522 34 Social Spending 755 6 428 4 Budget Financing 2,326 19 1,391 13 Potential Debt Management Operations 2/ 5,000 40 5,000 48 Source: IMF calculations using Authorities’ data. 1/ Contracting and guaranteeing of new debt. The present value of debt is calculated using the terms of individual loans and applying the 5 percent program discount rate. For commercial debt, the present value is defined as the nominal/face value. 2/ “Planned potential borrowing for debt management operations to improve the debt profile (in terms of PV and debt service). Debt management operations are not reflected in the baseline. COUNTRY CLASSIFICATION AND DETERMINATION OF SCENARIO STRESS TESTS 10. Kenya’s debt carrying capacity is assessed as Medium, given an estimated Composite Indicator (CI) of 3.01. The CI captures the impact of various factors through a weighted average of an institutional indicator, 9 real GDP growth, remittances, international reserves, and world 9 The World Bank’s Country Policy and Institutional Assessment (CPIA). 7 growth. Kenya’s CI is based on the October 2020 WEO and the World Bank’s CPIA vintage released in July 2020. The debt carrying capacity, in turn, determines the PPG external debt thresholds and total public debt benchmarks.10 Kenya: Composite Indicator and Thresholds Country Kenya Country Code 664 Debt Carrying Capacity Medium Classification based on Classification based on Classification based on the two Final current vintage the previous vintage previous vintages Medium Medium Strong Strong 3.01 3.12 3.13 APPLICABLE APPLICABLE EXTERNAL debt burden thresholds TOTAL public debt benchmark PV of total public debt in PV of debt in % of percent of GDP 55 Exports 180 GDP 40 Debt service in % of Exports 15 Revenue 18 11. The revision to Kenya’s debt carrying capacity assessment from Strong to Medium was primarily driven by the revision to global growth that occurred with the October 2020 WEO (see Text Table, page 8). The 10-year global growth average was downgraded from 3.5 percent in the previous assessment to 2.9 percent under the current assessment11. With global growth having the largest weight, the revision explains close to 70 percent of the change in the composite indicator score. The downward revision to Kenya’s 10-year average growth (from 5.7 percent to 5.1 percent), contributed about 14 percent of the fall in the composite indicator score. Lower reserves coverage contributed to a lower score, while higher remittances growth supported a higher score. Consistent with the shift to Medium debt carrying capacity, applicable thresholds under the LIC DSF also are reduced, as indicated above. 10 See Guidance Note on the Bank-Fund Debt Sustainability Framework for Low Income Countries, Section V. 11 Global growth projections have been revised up since October 2020 WEO, although the outlook remains uncertain. 8 Kenya: Sources of Change in the Assessment of Debt Carrying Capacity Current Assesment Previous Assessment 10-year CI Score 10-year CI Score Coefficients Component average components average components (A) values (B) (A*B) = (C) values (B) (A*B) = (C) Country Policy and Institutional Assessment (CPIA) 0.4 3.7 1.44 3.7 1.44 Real GDP growth, percent 2.7 5.1 0.14 5.7 0.16 Import coverage of reserves, percent 4.1 39.4 1.60 42.3 1.72 Import coverage of reserves^2, percent -4.0 15.5 -0.62 17.9 -0.71 Remittances, in percent of GDP 2.0 3.0 0.06 2.8 0.06 Global growth, in percent 13.5 2.9 0.40 3.5 0.47 Composite Indicator (CI) Score 3.01 3.12 Composite Indicator (CI) Rating Medium Strong 12. Besides the six standardized stress tests, there are two tailored stress tests: • One tailored stress test combines contingent liabilities of a one-time debt shock (equivalent to 8.1 percent of GDP) to capture a scenario reflecting both contingent liabilities from SOEs (equal to the indicated standard level of 2 percent of GDP), contingent liabilities from PPPs (equal to the indicated level of 35% of the existing PPP stock, or 1.1 percent of GDP) and a need for bank recapitalization (equal to the indicated standard level of 5 percent of GDP). • The second tailored stress test is a market financing shock which is applied to low income countries with market access, such as Kenya. The scenario assesses rollover risks resulting from a deterioration in global risk sentiment, temporary nominal depreciation, and shortening of maturities of new external commercial borrowing. EXTERNAL DEBT SUSTAINABILITY ANALYSIS 13. Debt indicators in terms of exports breach thresholds under the baseline driven by the slowdown in exports and higher external debt (Table 1, Table 3, and Figure 1). Higher debt, the debt amortization profile, and lower exports of goods and services caused by the COVID- 19 shock help explain the breaches of one solvency (PV of PPG external debt-to-export ratio) and liquidity (debt-service-to-exports ratio) indicator. Based on the debt-carrying capacity analysis (2020 October-vintage WEO), the solvency indicator remains above threshold (180 percent) during 2021–27, while the liquidity indicator exceeds its threshold (15 percent) throughout the 10-year projection. The solvency indicator gradually declines as exports recover; the long-term decline in the liquidity indicator is interrupted by Eurobond repayments in 2024 and 2028. When compared with the May 2020 DSA, the reassessed classification of Kenya’s debt carrying capacity contributed to more protracted breaches. 14. The PV of PPG external debt as a share of GDP remains firmly below the 40 percent indicative threshold throughout the projection period (Table 1 and Figure 1). Reflecting 9 fiscal consolidation efforts and a borrowing mix that favors concessional borrowing, this solvency indicator is expected to decline from 28.7 percent in 2021 to almost 17 percent in 2041. It also remains below the threshold under the most extreme shock—a one-time depreciation. The external debt service-to-revenue ratio exceeds its threshold (18 percent) in 2024, reflecting the maturity of the Eurobond in that year. If market conditions are favorable, the authorities are considering debt management operations to further improve the already smooth debt service profile. Support provided by the G20 under the Debt Service Suspension Initiative (DSSI), requested by Kenya in January 2021, helped reduce debt service by about US$640 million in 2021. 15. Standard stress test results highlight the sensitivity of debt indicators to exports (Figure 1 and Table 1). Specifically, under the most extreme shock scenario (shock to export growth), the PV of debt-to-exports and the debt service-to-exports ratios breach the threshold over the projection period. Under the most extreme scenario, the debt service-to-revenue ratio is above the threshold until 2025. 16. Market financing risks have receded for Kenya (Figure 5). The EMBI spread has fallen from 727 basis points in 2020Q1 to 498 basis points during the 3 months ending in January 2021 and remains below the threshold (570 basis points). Gross financing needs have also declined, from 15 percent of GDP at the time of the previous DSA to 13 percent of GDP currently, staying below the threshold (14 percent of GDP) that indicates high risks. As noted above, relief provided by the G20 under the DSSI reduced financing needs in 2021. Fiscal consolidation efforts under the proposed program would help reduce gross financing needs below the threshold except in 2024, when rollover of the Eurobond upon maturity will increase financing needs to 14.3 percent of GDP. As is the case for emerging and frontier economies, financing risks could be affected by global liquidity conditions. If global market conditions were to unexpectedly tighten, financing risks for Kenya may increase. The shift in the deficit financing mix towards domestic resources calls for monitoring risks, although the recent success in extending the maturity profile of domestic debt mitigates some domestic refinancing risk. PUBLIC DEBT SUSTAINABILITY ANALYSIS 17. While average indebtedness in PV terms remains unchanged when compared with the last DSA, under the current baseline the public debt-to-GDP ratio remains above the 55 percent benchmark—for a country rated at medium debt-carrying capacity—until 2027 (Figure 2 and Table 2).12 In PV terms, the average PV debt-to-GDP ratio amounts to 62.8 percent during 2020–25, 0.3 percentage point of GDP above the average figure discussed at the time of the DSA for the RCF (May 2020). Public sector debt is projected to increase from 62.4 percent of GDP (PV terms) in 2020 to 64.2 percent in 2022, followed by a gradual decline. It remains above the threshold until 2027. Supported by fiscal consolidation under the program, including revenue mobilization measures, the PV of public debt-to-revenue ratio would initially increase from 12 Under Strong debt carrying capacity the threshold on PV of public debt is 70 percent of GDP. 10 360 percent in 2020 to 373 percent in 2021, before gradually declining to 248 percent in 2030 and to 105 percent in 2040. 18. The alternative scenarios indicate that the PV of debt-to-GDP ratio would remain above the indicative benchmark for most of the projection period (Figure 2 and Table 4). Under the most extreme shock scenario (shock to GDP growth), the PV of the public debt-to-GDP ratio would breach the 55 percent benchmark for a country with medium debt-carrying capacity during 2021–35. RISK RATING AND VULNERABILITIES 19. Kenya’s risk of debt distress remains high in the context of the ongoing global COVID-19 shock. The shock has led to a sharp temporary decline in export and GDP growth and triggered a strong fiscal response, interrupting planned consolidation. Consequently, the mechanical signal from debt indicators has worsened, particularly those expressed in terms of exports. Potential risks associated with SOEs will be closely monitored under the Fund-supported program, inter alia through financial evaluations of the nine largest SOEs facing financial risks (prior action), with the number of SOEs assessed increasing to 15–20 before the end of FY20/21. This analysis will inform the development of a strategy to manage and reduce SOE-related risks (structural benchmark). Kenya’s external and public debt vulnerabilities also reflect high past deficits, partly due to large infrastructure projects. Given the assessment of debt-carrying capacity as medium, the mechanical signal indicates sustained breaches of solvency and liquidity indicators under the baseline scenario —the PV of external debt-to-exports and external debt service-to- exports ratios as well as PV of public debt-to-GDP. The larger breach of liquidity indicators in 2024 under the baseline is mainly attributed to a Eurobond repayment; staff projects Kenya should be able to roll this maturity over, given its historical record of strong global market access and commitment to fiscal consolidation under the proposed program. The DSA suggests that Kenya is susceptible to export and exchange rate depreciation shocks (Figure 1). 20. Kenya’s debt remains sustainable and supported by fiscal consolidation under the program. With the debt-stabilizing primary balance achieved and surpassed during the program, debt would begin declining as a share of GDP already during the last year of the EFF/ECF arrangements. Indicators measured against exports will also gradually improve with the recovery of exports toward levels Kenya has achieved in recent years, supported by the post-pandemic global recovery and reforms under the EFF/ECF program to enhance competitiveness. Given the duration of mechanical threshold breaches under the baseline, consolidation efforts would need to be sustained after the program concludes to bring debt down to a healthier level. • While the PV of public debt-to-GDP ratio remains above the indicative threshold (50 percent), the authorities’ commitment to fiscal consolidation under the program provides additional safeguards for debt sustainability. Important actions have already been taken to permanently broaden the tax revenue base in the midst of the pandemic, alongside expenditure savings to limit expansion of the deficit from the COVID-19 11 shock. The multiyear fiscal consolidation plan highlighted in the 2021 Budget Policy Statement (BPS) is premised on a more conservative approach to revenue projections and a commitment to additional policy steps to increase tax revenues and control expenditures under the EFF/ECF program with the specific objective of anchoring debt sustainability. • Kenya’s PV of external debt as a share of GDP is below the 40 percent indicative threshold and will gradually decline over time. The slowdown in exports on the back of the COVID-19 shock and the scheduled rollover of the 2024 Eurobond drive the breaches in PV of external debt to exports and external debt service to exports. Kenya’s external debt indicators are expected to gradually improve as fiscal consolidation progresses, exports recover after the global shock dissipates, and Kenya makes progress to unlock its substantial export potential. • In addition, in connection with Kenya’s good prospects for capital market access at favorable terms, debt management operations (not reflected under the baseline) that seek to refinance syndicated loans and the 2024 Eurobond with long-dated debt instruments could offer a meaningful possibility to further improve the external debt profile. 21. Debt sustainability is also supported by Kenya’s generally smooth debt service profile, the authorities’ commitment to protect the public sector balance sheet from SOE- related contingent liabilities, and reasonable prospects for restoring Kenya’s strong debt carrying capacity. While the protracted breaches of most debt burden indicators are a source of concern, including SOE-related contingent liabilities, there are mitigating factors that help support the debt sustainability assessment. The relatively smooth debt service profile—except for the 2024 Eurobond maturity—is on a clear declining trajectory over the projection period during which breaches are most pronounced, signaling a strengthening in debt servicing capacity. The authorities’ commitment to absorb potential fiscal costs associated with materialization of SOE- related contingent liabilities with a limited impact on the programmed fiscal envelope will help avoid further deterioration in the public sector balance sheet. With global growth rebounding during the projection period, Kenya’s track record of strong debt carrying capacity, and the authorities’ commitment to pursue strong policies to replenish external buffers, there are reasonable prospects of restoring a strong debt-carrying capacity over the medium term, which will help reduce the number of indicators breaching the thresholds and the breaches’ duration. Stable and strong remittances would also continue to be an important source for foreign currency receipts, helping offset the slowdown in tourism receipts. 22. The debt profile also calls for a strong debt management framework and its effective implementation. The authorities’ active plans for managing their portfolio risks, including through refinancing maturities coming due on better terms to improve the overall debt profile, are a source of resiliency. In this context, the authorities are encouraged to further strengthen their debt management capacity to manage and prepare for large repayments of commercial borrowing. As part of this strategy, the authorities’ plans to refinance loans at a longer maturity to limit 12 refinancing risks is welcome. At the same time, concessional borrowing should continue to play an important role in financing investment projects due to its lower cost and longer maturity profile, while non-concessional borrowing should be limited to finance those projects that are critical for the authorities’ development strategy and have high social and economic returns. Looking ahead, efficient investment in infrastructure will raise growth and export potential, both of which will support Kenya’s external debt sustainability. Delivering on fiscal consolidation, while seeking to preserve social and development spending, would further reduce risks. At the same time, the authorities are encouraged to expand the coverage of public debt to include county governments, extra budgetary units, and non-guaranteed SOE debt, and continue improving public debt management and revenue administration. AUTHORITIES’ VIEWS 23. While underscoring the high degree of uncertainty on the outlook, the authorities acknowledged that debt and debt service indicators have deteriorated, reflecting the adverse impact of the global COVID-19 shock that contributed to larger primary deficits and lower growth. They noted that higher public debt was driven by the increased utilization of external commercial financing of the past, although during 2020 Kenya avoided utilizing commercial borrowing and relied heavily on the domestic debt markets. The authorities emphasized their commitment to fiscal consolidation under the program, including continued efforts to improve tax revenues, strengthen exports to help improve liquidity and solvency debt indicators, and continue to rely on concessional financing. The authorities acknowledged that Kenya remains at high risk of debt distress—overall and external debt. They committed to limit the use of commercial borrowing to the amounts allowed under the IMF supported program and observe the IMF Debt Limits Policy. The authorities noted that they are actively seeking debt management operations to lower the costs of debt and refinancing risks, especially by seeking to refinance syndicated loans and the 2024 Eurobond with long-dated debt instruments. The authorities committed to implement reforms to deepen the domestic debt markets to enhance efficiency in the secondary market and lower the cost of government debt securities across the yield curve. The authorities also committed to increase debt transparency through expanded coverage and reporting of public debt. 13 Table 1. Kenya: External Debt Sustainability Framework, Baseline Scenario, 2018–41 (In percent of GDP, unless otherwise indicated) Actual Projections Average 8/ 2018 2019 2020 2021 2022 2023 2024 2025 2026 2031 2041 Historical Projections External debt (nominal) 1/ 51.5 54.3 58.7 59.6 60.9 61.1 60.9 63.1 64.1 63.8 41.3 35.1 62.5 Definition of external/domestic debt Currency-based of which: public and publicly guaranteed (PPG) 30.6 31.5 35.6 37.8 37.6 36.7 35.7 35.0 34.3 31.5 24.1 19.0 34.7 Is there a material difference between the two No criteria? Change in external debt 3.6 2.8 4.4 0.9 1.3 0.2 -0.3 2.3 0.9 0.3 -3.5 Identified net debt-creating flows -0.7 0.6 2.5 0.8 1.8 1.5 1.5 1.5 1.4 1.3 2.0 3.5 1.3 Non-interest current account deficit 4.1 3.8 2.8 3.5 3.6 3.6 3.8 3.7 3.7 3.6 4.0 5.8 3.7 Deficit in balance of goods and services 9.8 9.3 8.2 9.1 9.4 9.7 9.9 10.0 10.1 10.2 8.8 11.5 9.9 Exports 13.2 12.1 10.0 11.2 11.8 12.4 12.9 13.3 13.4 15.0 21.1 Imports 23.0 21.4 18.2 20.4 21.3 22.1 22.8 23.3 23.5 25.2 29.8 Debt Accumulation 2.5 40 Net current transfers (negative = inflow) -5.7 -5.5 -5.0 -5.7 -5.9 -6.0 -6.1 -6.1 -6.0 -6.8 -8.1 -5.5 -6.2 of which: official 0.0 -0.1 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 35 Other current account flows (negative = net inflow) 0.0 0.0 -0.4 0.1 0.0 0.0 0.0 -0.2 -0.4 0.2 3.4 -0.2 -0.1 2.0 Net FDI (negative = inflow) -1.7 -1.2 -0.2 -0.3 -0.4 -0.5 -0.6 -0.7 -0.7 -0.7 -0.6 -1.4 -0.6 30 Endogenous debt dynamics 2/ -3.1 -2.1 -0.1 -2.4 -1.4 -1.6 -1.7 -1.6 -1.6 -1.7 -1.5 Contribution from nominal interest rate 1.7 2.0 2.0 1.8 1.8 1.9 1.8 1.9 1.9 1.9 1.1 25 1.5 Contribution from real GDP growth -2.7 -2.5 0.1 -4.2 -3.2 -3.5 -3.4 -3.4 -3.5 -3.6 -2.5 20 Contribution from price and exchange rate changes -2.1 -1.5 -2.1 … … … … … … … … Residual 3/ 4.4 2.3 1.9 0.1 -0.4 -1.3 -1.8 0.8 -0.4 -1.0 -5.4 1.5 -0.9 1.0 15 of which: exceptional financing 0.0 0.0 0.0 -1.5 0.0 0.0 0.0 0.0 0.0 0.0 0.0 10 0.5 Sustainability indicators 5 PV of PPG external debt-to-GDP ratio ... ... 28.7 28.7 28.3 27.3 26.3 25.7 25.2 22.7 16.8 PV of PPG external debt-to-exports ratio ... ... 288.3 255.8 239.2 219.8 204.2 193.6 188.5 151.5 79.8 0.0 0 PPG debt service-to-exports ratio 19.6 31.9 26.5 19.1 22.7 20.1 29.7 18.4 17.1 16.1 7.9 2021 2023 2025 2027 2029 2031 PPG debt service-to-revenue ratio 14.4 22.0 15.5 13.0 15.8 14.0 21.0 13.1 12.1 12.7 8.3 Gross external financing need (Million of U.S. dollars) 17,743 21,052 23,612 27,875 30,583 36,489 44,486 49,323 55,874 74,955 88,395 Rate of Debt Accumulation Grant-equivalent financing (% of GDP) Key macroeconomic assumptions Grant element of new borrowing (% right scale) Real GDP growth (in percent) 6.3 5.4 -0.1 7.6 5.7 6.1 6.1 6.1 6.1 6.0 6.0 5.0 6.2 GDP deflator in US dollar terms (change in percent) 4.5 3.1 4.1 -0.5 0.6 1.1 1.5 1.7 1.8 0.1 0.1 4.4 0.7 Effective interest rate (percent) 4/ 3.9 4.2 3.8 3.3 3.3 3.3 3.1 3.3 3.3 3.2 2.6 7.6 3.2 External debt (nominal) 1/ Growth of exports of G&S (US dollar terms, in percent) 10.7 -0.6 -14.1 20.7 12.0 12.5 11.9 11.1 8.7 8.4 8.4 1.3 10.9 of which: Private Growth of imports of G&S (US dollar terms, in percent) 5.7 1.2 -11.8 19.9 11.1 11.3 11.1 10.2 9.0 7.7 5.3 3.5 10.1 70 Grant element of new public sector borrowing (in percent) ... ... ... 32.0 31.0 36.5 24.1 30.7 29.1 31.0 32.5 ... 30.2 Government revenues (excluding grants, in percent of GDP) 18.0 17.5 17.0 16.5 17.0 17.9 18.2 18.6 18.9 19.0 20.3 18.4 18.4 60 Aid flows (in Million of US dollars) 5/ 1,087 1,476 1,923 3,055 2,335 2,457 2,707 2,911 2,905 3,550 5,312 Grant-equivalent financing (in percent of GDP) 6/ ... ... ... 2.2 1.5 1.5 1.4 1.4 1.3 1.2 1.0 ... 1.4 50 Grant-equivalent financing (in percent of external financing) 6/ ... ... ... 36.5 37.0 42.4 28.7 35.9 34.7 37.4 40.9 ... 35.8 Nominal GDP (Million of US dollars) 87,824 95,371 99,110 106,041 112,750 120,936 130,160 140,398 151,536 205,789 373,341 40 Nominal dollar GDP growth 11.2 8.6 3.9 7.0 6.3 7.3 7.6 7.9 7.9 6.1 6.1 9.6 6.9 30 Memorandum items: 20 PV of external debt 7/ ... ... 51.8 50.5 51.6 51.7 51.6 53.9 55.0 54.9 34.1 In percent of exports ... ... 519.9 450.1 436.7 417.2 399.6 405.4 410.8 366.8 161.6 10 Total external debt service-to-exports ratio 135.1 161.1 213.7 205.7 202.8 218.0 240.0 241.6 253.0 224.0 96.0 PV of PPG external debt (in Million of US dollars) 28,453 30,465 31,884 32,975 34,288 36,124 38,238 46,646 62,869 0 (PVt-PVt-1)/GDPt-1 (in percent) 2.0 1.3 1.0 1.1 1.4 1.5 0.8 0.6 2021 2023 2025 2027 2029 2031 Non-interest current account deficit that stabilizes debt ratio 0.4 1.0 -1.6 2.6 2.2 3.4 4.1 1.5 2.8 3.4 7.5 Sources: Country authorities; and staff estimates and projections. 0 1/ Includes both public and private sector external debt. 2/ Derived as [r - g - ρ(1+g)]/(1+g+ρ+gρ) times previous period debt ratio, with r = nominal interest rate; g = real GDP growth rate, and ρ = growth rate of GDP deflator in U.S. dollar terms. 3/ Includes exceptional financing (i.e., changes in arrears and debt relief); changes in gross foreign assets; and valuation adjustments. For projections also includes contribution from price and exchange rate changes. 4/ Current-year interest payments divided by previous period debt stock. 5/ Defined as grants, concessional loans, and debt relief. 6/ Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the PV of new debt). 7/ Assumes that PV of private sector debt is equivalent to its face value. 8/ Historical averages are generally derived over the past 10 years, subject to data availability, whereas projections averages are over the first year of projection and the next 10 years. 14 Table 2. Kenya: Public Sector Debt Sustainability Framework, Baseline Scenario, 2018–41 (In percent of GDP, unless otherwise indicated) Actual Projections Average 6/ 2018 2019 2020 2021 2022 2023 2024 2025 2026 2031 2041 Historical Projections Public sector debt 1/ 60.2 62.1 68.7 71.5 72.9 72.3 71.8 70.0 68.2 53.7 29.4 45.9 65.8 of which: external debt 30.6 31.5 35.6 37.8 37.6 36.7 35.7 35.0 34.3 31.5 24.1 19.0 34.7 Definition of external/domestic debt Currency-based of which: local-currency denominated Change in public sector debt 3.4 1.9 6.5 2.8 1.5 -0.7 -0.5 -1.8 -1.8 -2.7 -1.8 Is there a material difference Identified debt-creating flows 3.2 2.6 5.9 1.8 0.7 -1.5 -2.5 -3.1 -3.5 -2.7 -1.6 3.3 -2.0 No between the two criteria? Primary deficit 3.7 3.6 4.1 3.7 2.0 0.4 -0.3 -0.9 -1.3 -0.9 -0.4 3.7 -0.1 Revenue and grants 18.2 17.7 17.3 16.9 17.3 18.2 18.5 18.9 19.2 19.3 20.6 18.8 18.7 of which: grants 0.3 0.2 0.3 0.4 0.4 0.3 0.3 0.3 0.3 0.3 0.3 Public sector debt 1/ Primary (noninterest) expenditure 21.9 21.3 21.4 20.6 19.3 18.6 18.2 18.0 17.9 18.4 20.2 22.5 18.5 Automatic debt dynamics -0.5 -1.0 1.8 -1.9 -1.3 -1.9 -2.1 -2.3 -2.3 -1.7 -1.2 of which: local-currency denominated Contribution from interest rate/growth differential 0.0 -0.1 1.4 -2.6 -1.9 -2.2 -2.2 -2.3 -2.3 -2.3 -1.7 of which: foreign-currency denominated of which: contribution from average real interest rate 3.4 2.9 1.4 2.2 2.0 2.1 1.9 1.8 1.7 0.9 0.1 of which: contribution from real GDP growth -3.4 -3.1 0.1 -4.8 -3.9 -4.2 -4.1 -4.1 -4.0 -3.2 -1.8 80 Contribution from real exchange rate depreciation -0.5 -0.8 0.3 ... ... ... ... ... ... ... ... 70 Other identified debt-creating flows 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 60 Privatization receipts (negative) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 50 Recognition of contingent liabilities (e.g., bank recapitalization) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 40 Debt relief (HIPC and other) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 30 Other debt creating or reducing flow (please specify) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 20 Residual 0.2 -0.7 0.7 1.7 1.3 1.1 2.1 1.4 1.8 0.5 0.2 1.0 1.1 10 Sustainability indicators 0 PV of public debt-to-GDP ratio 2/ ... ... 62.4 63.0 64.2 63.4 62.9 61.1 59.5 45.4 22.6 2021 2023 2025 2027 2029 2031 PV of public debt-to-revenue and grants ratio … … 360.0 372.6 370.8 348.7 339.2 324.0 309.3 234.8 110.0 Debt service-to-revenue and grants ratio 3/ 46.2 56.1 52.2 47.6 61.9 68.3 79.3 72.0 69.8 46.6 16.5 Gross financing need 4/ 12.1 13.5 13.2 11.8 12.7 12.9 14.4 12.7 12.1 8.1 3.0 of which: held by residents Key macroeconomic and fiscal assumptions of which: held by non-residents 1 Real GDP growth (in percent) 6.3 5.4 -0.1 7.6 5.7 6.1 6.1 6.1 6.1 6.0 6.0 5.0 6.2 1 Average nominal interest rate on external debt (in percent) 3.4 3.9 3.6 3.0 2.7 2.7 2.4 2.5 2.4 2.4 1.9 4.3 2.5 1 Average real interest rate on domestic debt (in percent) 8.5 6.9 2.6 5.8 5.6 5.4 5.2 4.8 4.7 3.4 1.8 2.5 4.6 1 Real exchange rate depreciation (in percent, + indicates depreciation) -2.6 -3.2 1.1 … ... ... ... ... ... ... ... -2.5 ... 1 1 n.a. Inflation rate (GDP deflator, in percent) 2.4 4.0 8.2 3.9 4.6 5.0 5.1 5.1 5.1 5.1 5.1 7.5 5.0 0 Growth of real primary spending (deflated by GDP deflator, in percent) 2.5 2.4 0.7 3.5 -0.9 2.2 3.6 4.9 5.7 6.4 8.2 4.8 4.7 0 Primary deficit that stabilizes the debt-to-GDP ratio 5/ 0.3 1.7 -2.5 0.9 0.6 1.1 0.2 0.9 0.5 1.8 1.5 -0.1 1.2 0 PV of contingent liabilities (not included in public sector debt) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0 0 2021 2023 2025 2027 2029 2031 Sources: Country authorities; and staff estimates and projections. 1/ Coverage of debt: The central government plus social security, central bank, government-guaranteed debt. Definition of external debt is Currency-based. 2/ The underlying PV of external debt-to-GDP ratio under the public DSA differs from the external DSA with the size of differences depending on exchange rates projections. 3/ Debt service is defined as the sum of interest and amortization of medium and long-term, and short-term debt. 4/ Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period and other debt creating/reducing flows. 5/ Defined as a primary deficit minus a change in the public debt-to-GDP ratio ((-): a primary surplus), which would stabilizes the debt ratio only in the year in question. 6/ Historical averages are generally derived over the past 10 years, subject to data availability, whereas projections averages are over the first year of projection and the next 10 years. 15 Table 3. Kenya: Sensitivity Analysis for Key Indicators of Public and Publicly Guaranteed External Debt, 2021–3 (In percent) Projections 1/ 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 PV of debt-to GDP ratio Baseline 29 28 27 26 26 25 25 24 24 23 23 A. Alternative Scenarios A1. Key variables at their historical averages in 2021-2031 2/ 29 28 28 28 28 28 28 28 28 28 28 0 #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A B. Bound Tests B1. Real GDP growth 29 29 30 29 28 28 27 26 26 25 25 B2. Primary balance 29 29 30 30 29 28 28 28 27 27 26 B3. Exports 29 30 32 31 30 30 29 29 28 27 26 B4. Other flows 3/ 29 30 30 29 28 28 27 26 26 25 24 B5. Depreciation 29 36 30 29 29 28 28 27 27 26 26 B6. Combination of B1-B5 29 32 32 31 30 30 29 28 28 27 26 C. Tailored Tests C1. Combined contingent liabilities 29 30 30 29 28 28 28 28 27 27 26 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing 29 32 30 30 29 28 28 27 26 26 25 Threshold 40 40 40 40 40 40 40 40 40 40 40 PV of debt-to-exports ratio Baseline 256 239 220 204 194 188 183 173 166 159 151 A. Alternative Scenarios A1. Key variables at their historical averages in 2021-2031 2/ 256 241 225 214 209 210 208 200 195 190 184 0 256 213 177 149 126 110 92 72 56 42 29 B. Bound Tests B1. Real GDP growth 256 239 220 204 194 188 183 173 166 159 151 B2. Primary balance 256 245 244 229 217 212 207 198 191 183 174 B3. Exports 256 306 379 352 333 324 313 296 282 268 253 B4. Other flows 3/ 256 250 241 224 212 207 200 189 181 172 163 B5. Depreciation 256 239 194 181 171 167 162 154 148 143 137 B6. Combination of B1-B5 256 299 235 293 278 271 262 248 237 226 215 C. Tailored Tests C1. Combined contingent liabilities 256 257 240 224 213 210 205 197 190 183 175 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing 256 239 220 205 195 189 183 173 165 157 150 Threshold 180 180 180 180 180 180 180 180 180 180 180 Debt service-to-exports ratio Baseline 19 23 20 30 18 17 17 20 17 17 16 A. Alternative Scenarios A1. Key variables at their historical averages in 2021-2031 2/ 19 22 19 28 18 16 16 19 16 16 16 0 19 22 19 28 16 14 14 15 9 7 5 B. Bound Tests B1. Real GDP growth 19 23 20 30 18 17 17 20 17 17 16 B2. Primary balance 19 23 21 31 20 18 18 22 18 19 18 B3. Exports 19 27 30 45 29 27 27 32 28 28 27 B4. Other flows 3/ 19 23 20 30 19 18 18 21 18 18 17 B5. Depreciation 19 23 20 29 18 16 16 20 15 15 15 B6. Combination of B1-B5 19 26 28 41 26 24 24 29 24 24 23 C. Tailored Tests C1. Combined contingent liabilities 19 23 21 30 19 18 18 21 17 17 17 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing 19 23 20 31 21 20 20 21 24 15 15 Threshold 15 15 15 15 15 15 15 15 15 15 15 Debt service-to-revenue ratio Baseline 13 16 14 21 13 12 12 15 12 13 13 A. Alternative Scenarios A1. Key variables at their historical averages in 2021-2031 2/ 13 15 13 20 13 12 12 14 12 12 12 0 13 16 13 20 11 10 10 11 7 6 4 B. Bound Tests B1. Real GDP growth 13 16 15 23 14 13 13 16 14 14 14 B2. Primary balance 13 16 14 22 14 13 13 16 14 14 14 B3. Exports 13 16 14 22 14 13 13 16 15 15 15 B4. Other flows 3/ 13 16 14 22 14 12 13 16 14 14 14 B5. Depreciation 13 20 18 26 16 15 15 18 14 15 15 B6. Combination of B1-B5 13 17 16 24 15 14 14 17 15 15 15 C. Tailored Tests C1. Combined contingent liabilities 13 16 14 21 14 12 13 15 13 13 13 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing 13 16 14 22 15 14 14 16 18 12 12 Threshold 18 18 18 18 18 18 18 18 18 18 18 Sources: Country authorities; and staff estimates and projections. 1/ A bold value indicates a breach of the threshold. 2/ Variables include real GDP growth, GDP deflator (in U.S. dollar terms), non-interest current account in percent of GDP, and non-debt creating flows. 3/ Includes official and private transfers and FDI. 16 Table 4. Kenya: Sensitivity Analysis for Key Indicators of Public Debt, 2021–31 (In percent) Projections 1/ 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 PV of Debt-to-GDP Ratio Baseline 63 64 63 63 61 59 57 54 51 48 45 A. Alternative Scenarios A1. Key variables at their historical averages in 2021-2031 2/ 63 64 66 68 70 71 72 72 72 72 72 0 #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A B. Bound Tests B1. Real GDP growth 63 68 71 72 72 71 70 68 66 64 62 B2. Primary balance 63 67 71 70 68 66 63 60 57 54 51 B3. Exports 63 66 68 67 66 64 61 58 55 51 49 B4. Other flows 3/ 63 66 66 66 64 62 59 56 53 50 47 B5. Depreciation 63 68 65 63 60 57 53 49 45 42 38 B6. Combination of B1-B5 63 64 68 68 66 64 61 58 55 52 49 C. Tailored Tests C1. Combined contingent liabilities 63 72 71 70 68 66 63 60 57 54 51 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing 63 64 63 63 61 60 57 54 51 48 45 Public debt benchmark 55 55 55 55 55 55 55 55 55 55 55 PV of Debt-to-Revenue Ratio Baseline 373 371 349 339 324 309 294 279 264 249 235 A. Alternative Scenarios A1. Key variables at their historical averages in 2021-2031 2/ 373 372 362 367 369 371 374 375 375 375 375 0 48 41 45 53 52 52 45 42 40 40 40 B. Bound Tests B1. Real GDP growth 373 389 391 389 379 370 361 351 342 332 323 B2. Primary balance 373 386 390 378 361 345 329 313 296 281 265 B3. Exports 373 380 375 364 348 332 316 300 283 267 251 B4. Other flows 3/ 373 378 364 353 337 322 307 291 275 259 244 B5. Depreciation 373 392 359 340 317 295 275 255 236 216 198 B6. Combination of B1-B5 373 372 376 365 349 333 317 301 285 269 254 C. Tailored Tests C1. Combined contingent liabilities 373 414 388 377 360 343 327 311 295 279 264 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing 373 371 349 340 325 310 294 279 263 248 233 Debt Service-to-Revenue Ratio Baseline 48 62 68 79 72 70 59 56 52 49 47 A. Alternative Scenarios A1. Key variables at their historical averages in 2021-2031 2/ 48 61 67 80 75 75 68 69 68 69 69 0 48 41 45 53 52 52 45 42 40 40 40 B. Bound Tests B1. Real GDP growth 48 64 75 89 82 80 70 69 65 64 62 B2. Primary balance 48 62 72 88 76 75 67 64 59 55 52 B3. Exports 48 62 69 80 73 70 60 57 54 51 48 B4. Other flows 3/ 48 62 69 80 72 70 60 57 53 50 48 B5. Depreciation 48 60 68 79 71 68 58 56 51 49 46 B6. Combination of B1-B5 48 60 69 85 75 72 63 61 56 52 49 C. Tailored Tests C1. Combined contingent liabilities 48 62 79 84 75 77 67 64 56 53 50 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing 48 62 69 80 74 72 61 57 58 48 46 Sources: Country authorities; and staff estimates and projections. 1/ A bold value indicates a breach of the benchmark. 2/ Variables include real GDP growth, GDP deflator and primary deficit in percent of GDP. 3/ Includes official and private transfers and FDI. 17 Figure 1. Kenya: Indicators of Public and Publicity Guaranteed External Debt under Alternatives Scenarios, 2021–31 PV of debt-to GDP ratio PV of debt-to-exports ratio 45 400 40 350 35 300 30 250 25 200 20 150 15 10 100 5 50 Most extreme shock is One-time depreciation Most extreme shock is Exports 0 0 2021 2023 2025 2027 2029 2031 2021 2023 2025 2027 2029 2031 Debt service-to-exports ratio Debt service-to-revenue ratio 50 30 45 25 40 35 20 30 25 15 20 10 15 10 5 5 Most extreme shock is Exports Most extreme shock is One-time depreciation 0 0 2021 2023 2025 2027 2029 2031 2021 2023 2025 2027 2029 2031 Baseline Historical scenario Most extreme shock 1/ Threshold Customization of Default Settings Borrowing Assumptions for Stress Tests* Size Interactions Default User defined Shares of marginal debt No No External PPG MLT debt 100% Tailored Tests Terms of marginal debt Combined CLs No Avg. nominal interest rate on new borrowing in USD 2.8% 2.8% Natural Disasters n.a. n.a. USD Discount rate 5.0% 5.0% Commodity Prices 2/ n.a. n.a. Avg. maturity (incl. grace period) 22 22 Market Financing No No Avg. grace period 5 5 Note: "Yes" indicates any change to the size or * Note: All the additional financing needs generated by the shocks under the stress tests are interactions of the default settings for the stress tests. assumed to be covered by PPG external MLT debt in the external DSA. Default terms of marginal "n.a." indicates that the stress test does not apply. debt are based on baseline 10-year projections. Sources: Country authorities; and staff estimates and projections. 1/ The most extreme stress test is the test that yields the highest ratio in or before 2031. Stress tests with one-off breaches are also presented (if any), while these one- off breaches are deemed away for mechanical signals. When a stress test with a one-off breach happens to be the most exterme shock even after disregarding the one-off breach, only that stress test (with a one-off breach) would be presented. 2/ The magnitude of shocks used for the commodity price shock stress test are based on the commodity prices outlook prepared by the IMF research department. 18 Figure 2. Kenya: Indicators of Public Debt Under Alternative Scenarios, 2021–31 PV of Debt-to-GDP Ratio 80 70 60 50 40 30 20 Most extreme shock is Growth 10 0 2021 2023 2025 2027 2029 2031 PV of Debt-to-Revenue Ratio Debt Service-to-Revenue Ratio 450 100 400 90 80 350 70 300 60 250 50 200 40 150 30 100 20 Most extreme shock is Combined contingent Most extreme shock is Growth 50 10 liabilities 0 0 2021 2023 2025 2027 2029 2031 2021 2023 2025 2027 2029 2031 Baseline Most extreme shock 1/ Public debt benchmark Historical scenario Borrowing Assumptions for Stress Tests* Default User defined Shares of marginal debt External PPG medium and long-term 33% 33% Domestic medium and long-term 45% 45% Domestic short-term 21% 21% Terms of marginal debt External MLT debt Avg. nominal interest rate on new borrowing in USD 2.8% 2.8% Avg. maturity (incl. grace period) 22 22 Avg. grace period 5 5 Domestic MLT debt Avg. real interest rate on new borrowing 4.0% 4.0% Avg. maturity (incl. grace period) 6 6 Avg. grace period 3 3 Domestic short-term debt Avg. real interest rate 1% 1% * Note: The public DSA allows for domestic financing to cover the additional financing needs generated by the shocks under the stress tests in the public DSA. Default terms of marginal debt are based on baseline 10-year projections. Sources: Country authorities; and staff estimates and projections. 1/ The most extreme stress test is the test that yields the highest ratio in or before 2031. The stress test with a one-off breach is also presented (if any), while the one-off breach is deemed away for mechanical signals. When a stress test with a one-off breach happens to be the most exterme shock even after disregarding the one-off breach, only that stress test (with a one-off breach) would be presented. 19 Figure 3. Kenya: Drivers of Debt Dynamics–Baseline Scenario External Debt Gross Nominal PPG External Debt Debt-creating flows Unexpected Changes in Debt 1/ (in percent of GDP; DSA vintages) (percent of GDP) (past 5 years, percent of GDP) Current DSA 40 80 20 Gross Nominal Previous PPG DSA External Debt Debt-creating flows Residual Unexpected Changes in Debt 1/ (in percent proj. of GDP; DSA vintages) (percent of GDP) (past 5 years, percent of GDP) 70 DSA-2015 Interquartile 20 15 range (25-75) Price and 40 60 Current DSA exchange rate 20 80 Residual Previous DSA 50 proj. 10 70 DSA-2015 Real GDP Interquartile growth 0 20 15 Change range in PPG (25-75) 40 Price and debt 3/ 60 exchange rate 5 30 Nominal 50 interest rate 10 Real GDP -20 0 Change in PPG 20 growth 0 Median 40 debt 3/ Current 5 10 account + FDI 30 Nominal -5 interest rate -40 0 -20 Contribution of 20 Change in 5-year 5-year 0 Distribution across LICs 2/ 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 unexpected Median PPG debt 3/ Current historical projected -10 changes 10 account + FDI change change -5 -40 0 Contribution of Change in 5-year 5-year Distribution across LICs 2/ Public historical debt 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 unexpected PPG debt 3/ projected -10 changes Gross Nominal Public Debt Public Debt Debt-creating flows change change Unexpected Changes in Debt 1/ (in percent of GDP; DSA vintages) (percent of GDP) (past 5 years, percent of GDP) Residual Public 40 debt Current DSA 30 Gross Nominal Public Debt proj. Previous DSA DSA-2015 Debt-creating flows Unexpected Changes in Debt 1/ Interquartile 80 (in percent of GDP; DSA vintages) Other debt (percent of GDP) 25 (past 5 years, percent of GDP) range (25-75) creating flows 20 70 Residual 40 Current DSA Previous DSA proj. Real Exchange 20 30 60 DSA-2015 rate Interquartile 80 depreciation Other debt 0 15 25 range (25-75) 50 creating flows Real GDP 20 70 growth Change in debt 40 Real Exchange 10 20 60 rate 30 Real interest depreciation -20 50 rate 0 5 15 20 Real GDP Change in debt growth 40 Primary deficit 0 10 10 30 Real interest -40 Median -20 0 rate Change in debt 5-year 5-year -5 5 2027 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2028 2029 2030 2031 20 historical projected Contribution of Distribution across LICs 2/ Primary deficit change change -10 0 unexpected 10 -40 Median 0 1/ Difference between anticipated and actual contributions on debt ratios. Change in debt 5-year 5-year -5 2027 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2028 2029 2030 2031 Distribution across LICs 2/ 2/ Distribution across LICs for which LIC DSAs were produced. historical projected Contribution of change change -10 unexpected 3/ Given the relatively low private external debt for average low-income countries, a ppt change in PPG external debt should be largely explained by the drivers of the external debt 1/ dynamics Difference equation. between anticipated and actual contributions on debt ratios. 2/ Distribution across LICs for which LIC DSAs were produced. 3/ Given the relatively low private external debt for average low-income countries, a ppt change in PPG external debt should be largely explained by the drivers of the external debt dynamics equation. 20 Figure 4. Kenya: Realism Tools 3-Year Adjustment in Primary Balance Fiscal Adjustment and Possible Growth Paths 1/ (Percentage points of GDP) Distribution 1/ 10 2 14 12 Projected 3-yr adjustment 8 3-year PB adjustment greater than 2.5 percentage points of GDP in approx. top In percentage points of GDP 10 quartile 6 8 In percent 4 1 6 2 4 0 2 -2 0 3.5 0.0 0.5 1.0 1.5 2.0 2.5 3.0 4.0 4.5 5.0 5.5 6.0 6.5 7.0 7.5 8.0 -4.5 -4.0 -3.5 -3.0 -2.5 -2.0 -1.5 -1.0 -0.5 More -4 0 2015 2016 2017 2018 2019 2020 2021 2022 Baseline Multiplier = 0.2 Multiplier = 0.4 Multiplier = 0.6 Multiplier = 0.8 1/ Data cover Fund-supported programs for LICs (excluding emergency financing) approved since 1990. The 1/ Bars refer to annual projected fiscal adjustment (right-hand side scale) and lines size of 3-year adjustment from program inception is found on the horizontal axis; the percent of sample is show possible real GDP growth paths under different fiscal multipliers (left-hand side found on the vertical axis. scale). Public and Private Investment Rates Contribution to Real GDP growth (% of GDP) (percent, 5-year average) 18 7 16 6 14 5 12 4 10 8 3 6 2 4 1 2 0 0 Historical Projected (Prev. DSA) Projected (Curr. DSA) 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 Gov. Invest. - Prev. DSA Gov. Invest. - Current DSA Contribution of other factors Priv. Invest. - Prev. DSA Priv. Invest. - Current DSA Contribution of government capital 21 Figure 5. Kenya: Market-Financing Risk Indicators GFN 1/ EMBI 2/ Benchmarks 14 570 Values 13 498 Breach of benchmark No No Potential heightened liquidity needs Low 1/ Percent of GDP. Maximum gross financing needs (GFN) over 3-year baseline projection horizon. 2/ Basis points. EMBI average spreads for Nov 2020 - Jan 2021. 45 PV of debt-to GDP ratio PV of debt-to-exports ratio 300 40 35 250 30 200 25 20 150 15 100 10 5 50 0 0 2021 2023 2025 2027 2029 2031 2021 2023 2025 2027 2029 2031 Debt service-to-exports ratio Debt service-to-revenue ratio 35 25 30 20 25 15 20 15 10 10 5 5 0 0 2021 2023 2025 2027 2029 2031 2021 2023 2025 2027 2029 2031 Baseline Market financing Threshold Sources: Country authorities; and staff estimates and projections. 22