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Cablegate: The "One-Two" Punch to Kenya's Economy

R 310835Z OCT 08
FM AMEMBASSY NAIROBI
TO SECSTATE WASHDC 7492
INFO USDOC WASHDC 3075
DEPT OF TREASURY WASHDC
DEPT OF LABOR WASHDC
USDA FAS WASHDC 1675
RWANDA COLLECTIVE
USEU BRUSSELS

UNCLAS NAIROBI 002522

STATE ALSO FOR AF/E AND AF/EPS

STATE PASS USTR WILLIAM JACKSON

TREASURY FOR REBECCA KLEIN

COMMERCE FOR BECKY ERKUL

STATE PLEASE PASS USAID/EA

STATE PLEASE PASS USITC FOR RALPH WATKINS AND ERLAND HERFINDAHL

E.O. 12958: N/A
TAGS: ECON ELAB EINV EFIN ETRD EAID BEXP PINR KE
SUBJECT: The "One-Two" Punch to Kenya's Economy

REF: (a) Nairobi 2328, (b) Nairobi 2040, (c) Nairobi 2166

This cable is not/not for internet distribution.


Summary
-------

1. (SBU) Still recovering from the blow of post-election violence,
the Kenyan economy is now being hit by the global financial crisis.
This "one-two" punch spells trouble for Kenya's economic prospects
at least over the short-term. Indicators of less than optimal
growth include declining remittances (the country's number one
foreign exchange earner), a falling shilling that will maintain
inflationary pressure and partially offset gains from oil price
drops, and a steadily declining stock exchange that has reached a
three year low. At the same time, it is likely that tourism
(already hard hit by the violence) and key Kenyan exports such as
coffee and cut flowers will face reduced demand. All signs point to
serious headwinds to economic expansion, something the country can
ill afford in the midst of its efforts to remedy the root causes of
the ethnically-charged post election violence. End summary.

Africa, Including Kenya, Not Immune from Global Crisis
--------------------------------------------- ---------

2. (SBU) At an October 23 IMF briefing on its outlook for
sub-Saharan Africa, IMF economists stepped back from earlier
predictions that developing economies would be immune from the
global economic crisis. It is now clear, according to the IMF, that
such economies will experience lower demand for exports, declining
or retreating foreign investment, higher inflation, likely declines
in foreign assistance, weakening commodity prices, lower remittances
and a fall off in tourism. Admittedly behind the curve on the
entire crisis, IMF experts said they had been "surprised time and
again at the complexity of this crisis."

3. (SBU) Kenya is subject to all these pressures and finds itself
in a more difficult situation because it is still trying to recover
from the disastrous economic results produced by the post-election
violence earlier this year. Those events halved Kenya's projected
2008 GDP growth from 8 to 4 percent. (Note: The first quarter alone
showed a negative 1.3 percent GDP retrenchment due to the violence.)
Now, just when second quarter GDP results showed signs of a modest
pick up (3.2 percent GDP growth), the economy faces the global
financial/economic turmoil. Signs and projections that the Kenyan
economy will face significant headwinds include:

-- Kenya's number one foreign exchange earner, remittances, is down
about 20 percent from August 2007 to August 2008 (latest figures
available). Faced with economic slowdowns in the U.S. and Europe,
the Kenyan diaspora will be less able to offer support to family
members in Kenya. Remittances, per ref B, have been assisting
Kenyan in recovering from the economic shock of January.

-- The Nairobi Stock Exchange (NSE), which has on average, 20
percent foreign participation on any given day, has dropped or been
unchanged every day for almost the last two months, even temporarily
halting trading on one day (ref A). From June 9 to October 24, it
witnessed a 41.5 percent nosedive in capitalization, going from 1.3
trillion shillings ($16.3 billion) to 759.7 billion shillings ($9.5
billion). The NSE's benchmark 20 share index has reached a 3 year
low, having lost 38 percent in the past four months. A part of its
decline has been attributed to the departure of foreign portfolio
investment from the market. Trading has slowed to a daily turnover
of around 200 million shillings compared to 1 billion shillings in
early summer 2008.

-- The Kenyan shilling has lost 27 percent of its value against the
dollar since January 1, 2008; it's now at a four year low. The
conventional wisdom is that the shilling is in decline mainly due to
falling remittances, capital flight from the NSE, and weak tourist
demand. As a result of the falling shilling, we don't expect
inflationary pressures to ease because imports will remain dear
(Kenya is a net importer). While falling oil prices should help
ease transport and power prices (fuel generators produce 40 percent
of Kenya's electricity), the falling shilling offsets some of these
potential gains. Inflation, which was 9 percent in 2007, has

climbed to a monthly average of between 25-30 percent in 2008. Even
with the upcoming recalculation of inflation, it is still in the
14-15 percent range (ref C). The Central Bank of Kenya (CBK) is
down to a little more than three months of forex reserves (to cover
imports), leaving it little margin to defend the shilling if demand
for dollars remains relatively strong.

-- The demand for key Kenyan exports including long-haul tourism for
safaris, cut flowers, and coffee are likely to decline in the months
to come as export market demand drops. The Managing Director (MD)
of the Serena Group of hotels in Kenya recently told diplomats and
business leaders that 2008 will be the "worst year in history" for
tourism, citing a major loss of corporate travel -- a component of
the tourism sector that has held strong through previous crises in
Kenya. Serena's MD said occupancy rates for Serena hotels across
Kenya have dropped 20-40 percent from last year. He also noted a
sharp decline of 60 percent in the number of available charter air
seats to the coastal region - traditionally popular with European
tourists. To make matters worse, occupancy rates are about 30
percent lower on the flights that are going and the tickets are
heavily discounted.

-- GOK access to credit, particularly its proposed Eurobod issue,
will become prohibitively expensive, making it more difficult to
finance desperately need infrastructure upgrades. October 29
reports indicate that the Kenyan Ministry of Finance is indefinitely
postponing the bond issue due to global financial circumstances.

-- Warnings about declining foreign direct investment certainly ring
true given the intense competition for a smaller pool of available
resources. Kenya is already seen by some U.S. businesses as less
attractive than many of its competitors due to corruption,
insecurity, poor infrastructure and high energy costs.

-- The IMF is concerned that official assistance flows will remain
flat or decrease as a result of the global economic crisis.
Charitable giving, which supports NGOs and foundations, will likely
fall off, possibly resulting in a decline of such assistance to
Kenya.

The Good News
-------------

4. (SBU) After facing negative growth in the first quarter due to
the election violence, Kenya experienced a respectable second
quarter growth rate of 3.2 percent. The third quarter may also show
signs of recovery against a backdrop of continuing sound
macroeconomic policies and pre-violence economic momentum. As
recently as September, the IMF and others expressed optimism about
Kenya's return to strong growth in 2009. The positive leadership
and cooperative relationship between President Kibaki and Prime
Minister Odinga has brought calm, a critical foundation to political
and economic reform/progress.

Comment
-------

5. (SBU) Kenya's prospects for quickly returning to pre-violence
growth rates of 7 percent are significantly diminished by the global
economic slowdown and accompanying declines in remittances, export
revenue, capital, and assistance; higher import costs exacerbate the
problem. With economic frustration, particularly among youth, a key
catalyst of the post-election violence, a stagnating economy is the
last thing an already fragile Kenya needs. A message the Mission
will be delivering is that now - more than ever - Kenya needs to
redouble its efforts at political and economic reform. In
particular, by quickly implementing constitutional reform the GOK
would arguably put in place the most vital component of sustained
economic growth: political stability. End comment.

RANNEBERGER

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