The big ask: Inside Treasury's 'unlikely' plan to lower gaping budget deficit

Treasury CS Njuguna Ndung'u. [Wilberforce Okwiri, Standard]

The government hopes to bring down the budget deficit for the next financial year by nearly Sh400 billion from Sh925 billion to Sh597 billion. 

Analysts note that this is overly ambitious and add that if experience in past budget-making cycles is anything to go by, the fiscal deficit for the 2024-25 financial year could be well over Sh1 trillion when the year closes on June 30, 2025. 

The country expects to borrow Sh597 billion, which in addition to the projected total revenue of Sh3.34 trillion will finance its Sh3.9 trillion budget. 

The deficit, equivalent to 2.9 per cent of the gross domestic product, is the lowest in more than a decade.

The Kenya Kwanza administration had pegged its hopes on high revenues, partly boosted by the tax measures that it had proposed in the Finance Bill, 2024 but now faces a major test after some proposals were rejected by Parliament following public outcry. 

Aside from the setback experienced after Kenyans' pushback on the Bill, experience also shows that the National Treasury rarely hits the target for revenue collections, forcing the government to borrow higher amounts than what is originally in the budget.

During the budget-making process for the current financial year, the National Treasury was working with a deficit of Sh718 billion, but when it got down to business, this ballooned and is expected to close the year at Sh920 billion. 

"The focus of our fiscal policy thus remains to reduce the deficit from 5.7 per cent of GDP in the current financial year to 3.3 [per cent of GDP in the next FY 2024-25]. The fiscal deficit, including grants, is projected at Sh597 billion, equivalent to 3.3 per cent of GDP down from Sh925.0 billion or 5.7 per cent of GDP in FY 2023-24,” said Prof Njuguna Ndung'u when he delivered the Budget statement in Parliament earlier this month.

To finance the deficit, the government plans to borrow Sh333.8 billion externally, equivalent to 1.8 per cent of GDP and net domestic borrowing of Sh263.2 billion, which is equivalent to 1.5 per cent of GDP.

Analysts note that reducing the fiscal deficit from 5.7 per cent of GDP to 3.3 per cent is too ambitious.

Dennis Kabaara, a management consultant and advisor, noted the changes that occurred over the 2023-24 financial year, where at the start of the financial year the budget deficit was relatively low but grew as the year progressed. 

Treasury had expected the budget deficit to be Sh718 billion, but this grew to Sh925 billion as the year came to an end.

“A day before this budget statement, a record deficit – on account of sub-optimal revenue collections and uncontrolled public spending – was signed off.  In other words, the promises of 2023 were neither kept nor realised,” said Prof Ndung'u about the second supplementary budget for the 2023-24 financial year that was assented to in early June, noting that Sh925 billion “looks like a record budget deficit crawling towards a trillion.”

To achieve the deficit targets, the government will have to go hard not just on revenue collection but clamp down on corruption and wasteful spending. 

“The projections show an ambitious target to reduce the fiscal deficit by close to Sh400 billion,” said Alex Kanyi, partner at law firm Cliffe Dekker Hofmeyr.

He noted that to achieve this, the government would have to significantly increase revenue generation through efficient tax collection, broadening the tax base and minimising tax evasion can help reduce the fiscal deficit.

The government, Mr Kanyi added, should also control its spending “through prudent budgeting, prioritising expenditures, reducing non-essential spending, and enhancing efficiency in public sector operations.”

The government should also undertake structural reforms in public finance management and promote economic growth through stimulating certain economic sectors as well as debt restructuring and management.

He also noted that the higher foreign borrowing at Sh333.8 billion could cause a strain to the country if certain factors – which are not within Kenya’s control – turnout out unexpectedly.

“This inclination towards external borrowing as opposed to domestic borrowing may impact the country in several ways, including the country losing out through high interest rates and costs as external borrowing can be more expensive compared to domestic borrowing as well as foreign exchange rate risk, whereby if the Kenyan shilling depreciates against the currency in which the borrowing is denominated, the cost of servicing this debt in local currency terms will increase," said Mr Kanyi.

"This could potentially strain the government’s budget if exchange rate movements are unfavourable.”

He also noted that high external borrowing can expose the economy to external shocks and vulnerabilities that may be due to factors such as changes in global financial conditions or sudden shifts in investor sentiment towards emerging markets.

Borrowing locally has also proved costly for local firms, whereby banks rush to lend to the government at the expense of the private sector.

The National Assembly’s select committee on Budget and Appropriations also noted the extent to which Treasury may have been unrealistic.

The Ndindi Nyoro-chaired committee has called out Treasury on several occasions for its ambitions on revenue collections that are not backed by an expanded tax base but premised on bringing down the budget deficit and borrowing.

“The committee observed that the National Treasury continues to overestimate revenue, resulting in recurring deficits and necessitating increased borrowing to cover shortfalls. The shortfall in revenue in the 2023-24 financial year is substantial,” said the committee in its report early this month on the second supplementary budget.

The Parliamentary Budget Office (PBO) noted that for the government to achieve the recently adopted debt anchor target of 55 per cent of GDP in present value terms would require discipline.

Parliament had set the debt ceiling at Sh10 trillion, but this was recently set at 55 per cent of GDP.

As a ratio of GDP, Kenya’s public debt at Sh10.39 trillion currently stands at over 70 per cent.

“Achieving this debt anchor requires the national government to run a fiscal deficit of approximately three per cent or lower,” said the PBO, a think tank that offers guidance to MPs on budget matters.

“In this regard, the national government’s strategy over the next four years should be to strategically implement fiscal consolidation to slow down debt accumulation while restructuring government spending to focus on policies and programmes with high social impact, high returns on investment, and the ability to crowd in private sector investment.”