News Column

Kenyan Bond Market Is an Innovation of the Nyayo Regime

September 4, 2014

Karen Kandie

It is said that necessity is the father of all innovation. This is very true of the Kenyan bond market.

A bond market provides the government and corporate entities with mechanisms to borrow directly from the public and private investors instead of the established financial intermediaries such as banks.

Kenya has one of the most developed bond markets in Africa, ranked third or fourth of the continent's 54 countries. Granted, most African countries do not have bond markets at all. This is a significant achievement for Kenya, for without a local bond market, the country would have to depend solely on foreign lenders for loans.

If our debt book was only denominated in foreign currency, it means the loans would have to be repaid in foreign currency, making it very difficult when our exports may not generate sufficient foreign currency for this purpose. The exchange rate would then suffer, impacting negatively on economic development.

Yet, our bond market has come a long way and today's article tells part of the story.

The story began in November 1991, when the so-called Donor Consultative Group imposed aid freeze on Kenya following the infamous Structural Adjustment Programmes and sour relations over governance. Consequently, aid flow declined significantly, with Official Development Assistance - grants and concessional loans - moving from an average peak of $1,120.5 million in 1989-90 to a low of $308.85 million, according to recorded data. It was not until 2003, when a new government stepped in, that donor funding resumed following renewed confidence in governance.

The aid freeze pushed Kenya to near-collapse without donor funding. Faced with a hostile donor community, the Nyayo regime had to seek internal solutions. The solution came in the form of domestic borrowing.

The Treasury bills and bonds market was thus started as the government was mainly dependent on borrowing locally for funding for a decade that donor funding lacked.

What looked like a bad situation turned out to be for the better. Thus, when the annals of the local bond market's history are written, we have to thank the donor community and the Nyayo regime for making it happen - the donor community for inadvertently testing the country's ability to survive without aid, and the Nyayo regime for demonstrating to the world that we can.

As we wish former President Daniel arap Moi a happy 90th birthday, among the accolades that his regime deserves is that of spearheading the local bond market.

Thanks to the bond market, Kenya is no longer a high aid-dependent economy, with about 50 per cent of its credit locally sourced. A domestic bond market means the country is not entirely at the mercy of foreign aid to fund its budget.

Foreign aid can be erratic and unpredictable both in timing and funding. Donors may also use aid to advance political agenda driven by the political interests of their electorates, which may vary over time and may be different from those of the recipient country. Another issue is that even after funds are committed, disbursement procedures for donor funding are often lengthy and cumbersome, providing prime opportunity for donors to harden positions.

In fact, in the donor freeze of 1991, committed official development aid estimated at $400 million was suspended, while new commitments were put on hold till donors would be satisfied that 'substantial' progress was achieved on several contentious issues.

Such volatile aid flows do little to promote coherent government expenditure and eventually their effectiveness is highly unpredictable. The World Bank-promoted structural adjustment programmes were also generally considered unsuccessful in most of the developing countries where they were imposed because they lacked local ownership among other factors.

An active government bond programme has also provided an avenue for private bond issues by initiating a pricing benchmark. Corporate bond issues are typically priced against the risk-free government treasury bills and bonds plus a mark up for the assessed risk, making the government bond programme a prerequisite for corporate debt notes.

Companies thus have alternatives for borrowing directly from the public through issuance of corporate bonds instead of relying on the banking industry. This is particularly useful for long term financing for capital investment and expansion. Additionally, bonds can be structured to meet specific repayment schedules such as grace periods and amortisation periods, areas where the banking industry is reluctant to venture into. The option to borrow directly from the public and private investors is good competition to banks and is one factor that contributes in pushing down interest interests. The push for lower interest rates includes promoting more corporate bond issues.

Going forward, even as the government reorganises its domestic borrowing programme to ensure it does not excessively borrow and crowd-out private sector credit, this has to be balanced with the need to maintain an active domestic bond market.

The domestic bond market is one of the achievements that Kenya can be proud of as it helps meet the funding needs of both the government and the private sector.

Happy birthday to Daniel arap Moi and thank you for standing up for this nation with the home-grown innovation of a vibrant bond market.

Karen Kandie is a financial and risk consultant with First Trident Capital and a PhD candidate in Finance at the Catholic University of Eastern Africa. Email:

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Source: AllAfrica

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