Money trail: Treasury didn’t lose money, it raised bonus

The furious debate on the Eurobond has been characterised by two extreme positions. On one side we have those whose strong views range from the argument that the bond proceeds have been “stolen”, to asserting that, even if the proceeds were received, since the National Treasury is apparently unable to give a proper account, there must have been some form of fraud perpetrated.

On the other side is the National Treasury’s narrative, which posits that there was no money stolen, that all was done procedurally and legally, and that those stating anything to the contrary are either misinformed or malicious.

In between sits an increasingly bemused public, unable to make head or sense of all these banking and accounting terms being bandied about, inclined to believe the latest they read, and wondering why Kenya ever dared venture into these dangerous international financial waters, in which apparently our National Treasury were either fools, easily taken for a ride by smooth international bankers; or that they were knaves out to fleece Kenyan taxpayers through malevolent and diabolically clever schemes, all at the behest of shadowy figures.

So which is which: was our money stolen, or not? If it was stolen, how much was taken; was it Sh10 billion, Sh00 billion, Sh40 billion or US$999 million or some other figure yet to be disclosed? And why should the Chief Executive of the Kenya Bankers Association (KBA) go to the trouble of penning what hopefully is a beam of light upon an increasingly murky picture?

The last question is easiest to answer. The KBA exists, among other things, to ensure that Kenya’s banking system (which includes three of the six international banks mentioned in the various accounts of what happened on the Eurobond) plays a full and active role in Kenya’s engagement with international markets.

The fog being generated by the debate we are having has the potential not only to damage our sovereign reputation, but also to inflict real harm upon our banking system’s ability to engage with counterparts overseas. And if anyone thinks that this is just bankers’ self-interest talking, please think again: the very petrol you are using to move from A to B; the computers, tablets and laptops Kenya’s admirable army of bloggers are using to generate this very Eurobond debate; the ability of Kenyans to travel, trade and otherwise interact with the outside world: all these depend on our having a trusted linkage to the international financial system, and the KBA is disturbed at the potential damage being done to our banking system’s credibility, and to its ability to facilitate Kenya’s engagement with the world, by the confusion being generated by this Eurobond debate. We owe it to Kenyans to speak out on this critical issue.

Let’s now turn to the Big Question: what happened, was money stolen or not stolen, and if stolen, how much?

Let’s start from the beginning, as it were: why go for a Eurobond? While various accounts have been given, there has been remarkably little information about why Kenya decided to go for; consequently it has been easy to paint the Eurobond issuance as part of a clever, murky scheme to rip off Kenyans.

 The answer to this question goes back to the Grand Coalition Government, which sensibly concluded that relying solely on domestic financing to fund the Government’s debt needs was neither wise, nor sustainable. And why this conclusion? Because inevitably lenders are only human; if the only lenders in town are local banks and investors, then they will use their effective monopoly over lending to the Government to extract excess returns.

That’s a fact, not theory, and it applies to you and I, just as it applies to Government. That’s why we have competition rules to stop one bank, or a few banks, being too dominant. Likewise with Government: it is important that borrowing options exist, beyond local lenders and investors.

A second and equally important reason for Government opting diversify its sources of borrowing was to create room for Kenyan corporates and individuals to borrow. Once again, this is plain common sense: if you ask lenders to choose between on the one hand lending to Government, which can raise money taxes or print money to repay its loans: and on the other hand and corporates and individuals, the reality is that lenders will prioritise Government, and penalise companies and individuals. Technically this is called crowding out, and Government was keen to reduce this negative phenomenon

The Government’s alternative to borrowing locally is to borrow offshore, either from the likes of the World Bank (i.e. Development Finance Institutions), and Western and other governments, or from international lenders and investors. We already borrow from the World Bank and donors, and the Mwai Kibaki-led governments of 2003-2012 were, quite rightly in my view, determined to reduce reliance on donor funding. Which leaves international lenders and investors.

Our first foray into the international lending markets was via the US$ 600 million two-year syndicated loan the Coalition Government raised in 2012, whose purposes were expressly to introduce Kenya to international lenders, to increase our foreign exchange reserves (which is why no Kenyan based banks were allowed to participate in the loan, since their foreign currency deposits are already in the national statistics) and to provide national budget support, including funding infrastructure and the rollout of devolution.

 This loan was a successful issue and it bore some of the hallmarks now being hotly contested: an offshore account was opened to receive the funds from lenders; the loan proceeds were sold by the National Treasury to the Central Bank of Kenya, and in return the National Treasury receives the Kenya Shilling equivalent amount; and Central Bank proceeded to deposit the US$ 600 million into its account at the Federal Reserve Bank of New York.

The syndicated loan was to be repaid either from the Government’s general revenues, or from a Eurobond or other financing. This was explicitly stated in the loan agreement and is not an instance of “after the fact” arguing; right from the outset the end game of this initial foray into the international capital markets was expected to be the issuance of a Eurobond.

To imply that the Eurobond was some sort of afterthought by a panicked government desperate to repay the syndicated loan is utter nonsense. Indeed one can only marvel at how quickly our memories fade: Kenya had first contemplated a Eurobond issue in 2007 for the very purposes enumerated in the 2014 Eurobond Prospectus, had gone so far as to appoint advisers (Deutsche Bank of Germany and Barclays Bank), and it was only in the aftermath of the 2008 global financial crash that Kenya abandoned this first Eurobond issuance. Come 2011 and the Government judged that international conditions had improved sufficiently to re-approach the market, but that in the wake of changed market conditions post the 2008 crash, it was better to try a toe-in-the-water approach to test international lenders’ appetite by first going for a shorter term two-year international syndicated loan before issuing a longer term Eurobond.

The strategy worked: the syndicated loan was a huge success, and the Grand Coalition Government, rightly in my view, took credit for a very successful international loan debut by Kenya.

With me so far?

Second question: how much was raised by the Eurobond, and how was it raised?

On June 24, 2014, Kenya raised US$ 2 billion. On December 17, 2014, Kenya raised US$ 815 million. Why raise in two lots? In June 2014, Kenya received offers totaling US$ 8.8 billion, but only took US$ 2 billion. Surely the country could have taken more? Yes, it could, but that would have been at the risk of interest rates moving sharply upwards. US$ 2 billion was determined by the National Treasury and its transaction advisers as the optimal amount to take at that time. Remember that this US$ 2 billion was raised on the same day that news of the attack on Mpeketoni was announced and was the lead story globally all that day; in the circumstances it was remarkable that any money was raised at all.

Then in November 2014 Kenya returned to the market. Why? Because like any company or, indeed, you and I, if interest rates fall we take advantage and borrow more, or we refinance existing loans. What actually happens in the Eurobond market is that the fall in interest rates is reflected in higher market prices for the country’s bonds, exactly as happens in the domestic Treasury Bond market.

There is an old and very accurate truism in the financial markets: if interest rates rise, prices of bonds fall, and if interest rates fall, prices of bonds rise. In November 2014, market rates globally fell, the price of Kenya’s Eurobonds rose and Kenya took immediate advantage of this favourable movement in the prices of its existing Eurobond to raise another US$ 750 million.

Actually this is not quite true: Kenya raised US$ 815.4 million because it sold its bonds at these new higher bond prices. Put another way: Kenya got a bonus of US$ 65.4 million WHICH THE COUNTRY DOES NOT HAVE TO PAY BACK! Did I hear three cheers for our National Treasury officials for engineering what was in effect a gift of US$ 65.4 million for the country? No, I thought not. Pity, because this was brilliant timing, brilliant work.