89269 v1 EXECUTIVE SUMMARY Growth will remain robust—but Kenya faces by low fiscal deficits and low levels of government strong headwinds in 2014 debt—has allowed Kenya’s peers to start closing the E conomic growth in Kenya remains robust. large income gap that once existed between them Strong economic performance continued in 2013 and Kenya. In order to retain its advantage, Kenya as the economy grew 4.7 percent, an uptick from can accelerate its own agenda of structural reforms 4.6 percent in 2012. Growth was driven by robust that are key to higher and sustainable growth. The consumption spending and public investment in priority should be on reforms aimed at increasing infrastructure, as well as higher industrial and the flexibility of its economy to facilitate the transfer services output. Growth was underpinned by of resources toward the tradable sector, in order to macroeconomic stability, including single-digit increase exports and create jobs. inflation and a stable exchange rate. On the negative side, weak investor confidence resulted in anemic Macroeconomic stability underpinned growth in private investment and subdued GDP growth. And 2013, as lower inflation supported the demand drought in the fourth quarter of 2013 depressed for goods and services. Inflation expectations growth in agriculture and increased electricity were anchored at a lower level as a result of lower prices, driving up production costs and reducing international food and fuel prices and prudent GDP by an estimated KSh 23.8 billion (0.7 percent). monetary policy. Inflation averaged 5.7 percent (7.3 percent for food) in 2013 and 6.9 percent (9.6 Despite its robust performance, Kenya continues percent for food) in the 12 months ending in May to underperform its regional peers. Kenya’s 2014. Industrial output growth rebounded strongly neighbors are catching up in terms of per capita GDP in 2013, partly thanks to stable exchange rates for (Figure 1). Annual real GDP growth in the region most of the year. Economic activity softened in the averaged almost 6.1 percent between 2000 and last quarter of 2013, as inadequate rainfall in key 2012, accelerating the recovery that started in the bread basket zones reduced agricultural output, late 1990s. This strong performance—driven partly reducing GDP by KSh 23.8 billion (0.7 percent). Figure 1: The gap in per capita GDP between Kenya and its peers narrowed between 1990 and 2012 GDP per capita in constant US dollars Index of GDP per capita 1,600 200 GDP per capita (constant 2005 US$) Index of GDP per capita (1999 = 100) 1,400 180 1,200 160 1,000 140 800 120 600 100 400 200 80 0 60 2011 2012 2008 2009 2010 2006 2007 2003 2004 2005 2002 1999 2000 2001 1997 1998 1995 1996 1992 1993 1994 1990 1991 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Burundi Kenya Rwanda Tanzania Uganda Burundi Kenya Rwanda Tanzania Uganda Source: World Development Indicators (World Bank) June 2014 | Edition No. 10 v Executive Summary The ongoing fiscal expansion is widening the fiscal Medium-term growth prospects remain favorable, deficit and raising the public debt-to-GDP ratio. despite emerging challenges. In the base case The fiscal deficit remained high at 6.6 percent of scenario, GDP growth is projected to increase 4.7 GDP, as a result of ambitious public investment percent in both 2014 and 2015. In the optimistic programs and increases in public sector wages. scenario, GDP is projected to increase 5.0 percent Fiscal policy remained expansionary, even though in both 2015 and 2016. Robust domestic demand, growth returned to its trend level. As a result, fiscal underpinned by investment in infrastructure and buffers were reduced, raising Kenya’s vulnerability household consumption, will continue to drive growth to shocks. The debt-to-GDP ratio crossed the 50 during the forecast period. Public consumption will percent threshold in 2014, raising concerns about remain high. A large public sector wage bill, transfers the level of indebtedness and the availability of fiscal from the national government to the counties, and buffers to absorb volatility going forward (Figure 2). recurrent expenditures for social sector projects will Figure 2: The fiscal deficit increased in recent years, pushing up public debt continue to drive public expenditures in 2014 and probably thereafter. External demand for Kenyan 60 10 55.8 51.7 51.8 9 exports and investment flows should revive as the 50.3 global economy strengthens. Despite the increase Fiscal deficit (share of GDP, percent) 50 47.3 Public debt (share of GDP, percent) 45.5 8 40 7.1 7 in exports, however, net exports are expected to 6.6 6 slow GDP growth over the forecast horizon, because 30 5 5.6 demand for imported capital goods is projected to 4 20 3 remain strong. 2 10 1 Inflationary pressures are building. Inadequate 0 0 rainfall could create macroeconomic instability in 2011/12 2012/13 2013/14 2014. The extent of the effect remains unclear, Public debt to GDP (net) Fiscal deficit Public debt to GDP (gross) but higher food and electricity prices are expected Source: Quarterly Economic and Budgetary Review (National Treasury) to raise inflation above its target level, putting macroeconomic stability, private investment, and The World Bank projects that Kenya’s GDP will grow projected growth at risk. 4.7 percent a year in 2014 and 2015, supported by stronger global economic activity among its trading Several risks threaten growth. Drought (or erratic partners. The projections assume that the impact rainfall) could reduce agricultural production, of inadequate rainfall and the insecurity caused by leading to higher food and electricity prices as terrorist activity will be limited. The economy grew by well as inflationary pressures, the tightening of just 2.7 percent in the first quarter of 2014, mainly as global monetary conditions could reverse capital a result of delayed rain in the bread basket areas of flows, and the domestic security situation could the Rift Valley and increased insecurity. These shocks deteriorate further. Strong inflationary pressures caused the Bank to reduce its growth projection for have been emerging since April, driven partly by 2014 by 0.5 percentage points since the last Kenya unfavorable bad weather. Unreliable electricity Economic Update. The new projections reflect the supply (exacerbated by low rainfall) continues to effects of the drought, the deteriorating security impose high costs on enterprises. These effects situation, the low level of budget execution, and could dampen household consumption and reduce tighter global credit as the U.S. Federal Reserve domestic demand. Increased volatility in financial winds down its expansive monetary policy. markets and capital flows could slow growth by vi June 2014 | Edition No. 10 Executive Summary raising domestic interest rates and inflation. A . . . but universal health coverage worsening security situation would have a severe is attainable if the right polices are effect on the tourism sector and instill fear among implemented effectively D current and potential investors across sectors. evolution of health care to the counties has the potential to improve health outcomes. Under Addressing the fiscal pressures emerging from fiscal Kenya’s new constitution, operational aspects of the expansion is a priority for the authorities. Given the delivery of health care services have been devolved reduction of fiscal buffers and the fiscal risks linked to to newly created county governments; the national the wage bill and devolution, a strong emphasis on government is now responsible only for policy achieving efficiency gains, is warranted particularly making and regulation. The new constitution also in order to address the access and equity challenges guarantees equitable access to health services to all. in the health sector. Additional expenditures should be pursued only if they are sustainable. Direct funding of lower-level hospitals—through the Health Sector Services Fund—has already Health care for many Kenyans is improved services. In 2010 the Ministry of Health inadequate . . . introduced direct funding to dispensaries and health D espite economic growth over the past decade, health care outcomes in Kenya remain weak. Rates of maternal mortality and stunting among centers, through the Health Sector Services Fund (HSSF). This funding mechanism currently covers more than 3,000 facilities and will be expanded to children have barely changed, and the incidence of about 6,000 by 2015. Two years after its launch, the non-communicable diseases is rising. HSSF has already improved the quality and quantity of services, community participation, and governance. Catastrophic health-related spending continues Supporting increased utilization has been the shift to push Kenyan households into poverty. The from a kit-based “push” supply system to a demand- proportion of households reporting catastrophic based “pull” system as well as the implementation of spending on health fell from 11.4 percent in 2007 a human resources strategic plan that has deployed to 9.4 percent in 2013, according more than 3,000 nurses to the most to preliminary results of the 2013 underserved areas. household healthcare utilization and expenditure survey. But this Two years after its Kenya’s quest for universal access is figure still means that health-related launch, the HSSF has achievable but expensive. Investing expenditure pushed hundreds of already improved the in comprehensive primary health thousands of Kenyan families into quality and quantity of care is a cost-effective way to poverty last year alone. Improving services, community achieve universal health coverage. access to primary care would participation, and The sector must be consolidated, contribute to achievement of the governance and further strengthened, and the twin goals of the World Bank Group— recently introduced systems need to to eliminate extreme poverty and be expanded at all levels, especially promote shared prosperity—because the poor tend through the primary health care pyramid. Health to benefit most from primary health care and out- care spending needs to be reallocated away from of-pocket health care expenditures are an important curative care toward preventive and promotive cause of poverty. care. A multisectoral, multidisciplinary, and June 2014 | Edition No. 10 vii Executive Summary holistic approach is necessary that increases the implementing the phased introduction of subsidies number of health staff in all disciplines, establishes for health insurance through the National Health an effective supply chain system for drugs and Insurance Fund. laboratory services, ensures improved transport services and infrastructure, and provides adequate Creation of a comprehensive primary health care water and sanitation. system depends on several factors, including: • good policies and legislation at the national and county level that emphasize participation by The health care system needs to be more communities and individuals equitable. Seventy percent of health costs in Kenya • participatory approaches to planning and go to hospital and specialist care, which benefit management just 30 percent of the population (Logie and others • health literacy, especially among women, which 2010). Greater equitability could be achieved by has been found to reduce both maternal and allocating more funds to primary health care and by child morbidity and mortality ensuring access to health insurance by the poor. The • appreciation by the community of good-quality World Bank is supporting the Ministry of Health in services, which increases utilization. viii June 2014 | Edition No. 10