Why Kenya's economy is the linchpin of a promising new zone of growth in East Africa. The latest in our series of Lab Reports on Kenya.
Lately many observers have been avidly discussing the recent high rates of economic growth in Africa. Speaking in Washington earlier this year, Donald Kaberuka, the president of the African Development Bank offered some cautionary words. While the good economic news from the continent may well represent a turning point from a past characterized by hopelessness, he said, Africa nevertheless remains far from a tipping point. To reach such a threshold, Africa requires major investments in three "I’s": institutions, integration, and infrastructure. Even with the recent robust growth experienced over the past decade, Africa still suffers a major infrastructure deficit. Most of the countries have relatively weak institutions. And the regional integration project has been slow and marred by compliance and commitment deficits. Thus, as Kaberuka noted, although Africa has reached a turning point, progress to a tipping point is not an easy journey.
One of the regions in Africa that is making remarkable progress in all these "I’s" is the East African Community. The EAC’s original members — Kenya, Uganda, and Tanzania — have recently been joined by Rwanda and Burundi. South Sudan is expected to join the community soon. The region has fast-tracked regional integration and has seen considerable progress in institutional reforms. Moreover, East Africa boasts much greater political stability than it has at any time in its recent past, and peace has been restored in most of the countries. The region has also seen major investments in both national and regional infrastructure; many more projects have been planned and are scheduled to commence shortly. On Nov. 28, for example, President Uhuru Kenyatta of Kenya inaugurated the commencement of construction of a rail project that will link Kenya’s coast town of Mombasa to Kampala (Uganda), Kigali (Rwanda), and Juba (South Sudan). With positive growth trajectory predicted over the medium term, the EAC has a good chance of reaching a developmental tipping point. (The photo above shows Ugandan President Yoweri Museveni waving an EAC flag during an event attended by the region’s other leaders at Mombasa Port in August.)
Within the EAC, the Kenyan economy is the anchor. The overall performance of the region will to a great extent depend on what happens in Kenya. Kenya’s economy is the largest in the region and is much more dynamic than those of other member countries. The country’s economy is much better linked to the other economies in terms of investment flows and trade. Thanks to its more advanced human capital base, its more diversified economy, and its role as a leader in the information communication revolution in the region, Kenya’s economy is expected to remain strong, creating salutary benefits to the other member countries. The prospects for a strong economy are boosted by recent institutional reforms that have culminated in the adoption of a new constitution that provides for devolved governance.
Kenya’s economic dominance in the region is based on a strong private sector that has evolved under relatively market-friendly policies for most of the post-independence era. Kenya’s record of relative political stability and its lack of dramatic ideological shifts over the same period have done much to cement its position. By contrast, the other members of the EAC have had rather turbulent political histories. In the case of Tanzania, a radical ideological orientation to socialism under the policy of "Ujamaa" was the cornerstone of founding President Julius Nyerere’s government. Such factors undermined the growth of the private sector in the other EAC countries. Though these countries have undertaken substantive reforms, and are now on a positive growth trajectory, Kenya is likely to hold onto its dominant position for the near-to-medium future.
EAC member countries have diverse political histories. The five countries attained their independence in the 1960s. Tanzania was the first (1961), followed by Uganda, Burundi, and Rwanda in 1962, and Kenya in 1963. Despite achieving political independence at the same period, the countries’ political development has been somewhat heterogeneous. Only Tanzania and Kenya escaped major internal conflict and military rule. Uganda’s Milton Obote was ousted in 1971 by Idi Amin, and what followed was a devastation of the country’s economy brought about by Amin’s policies, including the eviction of Asians, the nationalization of private enterprises, and the expansion of the public sector. Idi Amin was ousted through a military coup in 1979 by Milton Obote, who was again overthrown by General Tito Okello, who ruled for six months before being ousted by the current Ugandan president Yoweri Museveni.
Burundi has been marred by civil unrest since its independence, a conflict primarily between the Hutus and the Tutsis, the two main ethnic groups. Burundi, one of the five poorest countries in the world, has seen its growth and development curtailed by civil unrest. Rwanda, the smallest country in East Africa in terms of geographical size, experienced one of the worst genocides in history in 1994, in which over half a million people were killed within approximately a hundred days. The 1994 genocide in Rwanda was a culmination of the ethnic and political rivalry that long existed between the Hutu and the Tutsi (the same groups that were involved in the conflict in Burundi).
Tanzania boasts a large reservoir of resources: land, water, and mineral wealth. Although the country has been politically stable in recent decades, the development of the private sector was greatly hampered by the Ujamaa policy. The Ujamaa village was a concept propagated by President Nyerere, based on the ideals of "African Socialism," which stipulated that the president should determine how the country’s natural resources were allocated and used. There was no freehold land ownership. Cultivation of land was collective, as the land rights were transferred to the elected village councils, "the Ujamaa." The Ujamaa concept not only affected agriculture but also nationalized the banks and industry and made the government the biggest employer. As a result, the private sector declined. The country became dependent on international aid. A nation rich in natural resources became one of the poorest in the world.
Although Kenya has never experienced military rule, and its political environment can be described as somewhat democratic, the country has had its share of politically instigated violence along ethnic divisions and tribal lines. Even though elections in Kenya have been marred by flaws and irregularities, the country is considered to have a wider democratic space compared to its neighbors.
Following the post-election violence in 2007-2008, Kenya held a constitutional referendum in August 2010, approving a new constitution that brought several important reforms. Among other things, the new constitution allows Kenyans to initiate referenda, thus promoting popular initiative. This democratic environment is not enjoyed in Uganda, where Yoweri Museveni has held power for the last 25 years, and who has stated that he will run yet again in the 2016 elections if his party endorses him.
In Rwanda, Paul Kagame has held the presidency since 1994; during that time, critics have accused him of infringing on media freedom and suppressing the opposition. Burundi has been somewhat democratic in its elections, but the country has also experienced presidential assassinations and at least one coup d’etat since it embraced democracy. Tanzania has a multiparty democracy (though Chama Cha Mapinduzi has been the domin
ant party since 1977).
As previously observed, Kenya has the largest economy amongst the members of EAC in terms of GDP. Kenya’s GDP accounts for 40 percent of the region’s GDP, followed by Tanzania at 28 percent, Uganda at 21 percent, Rwanda at 8 percent, and lastly Burundi at 3 percent. In terms of GDP at current market prices, Kenya’s 2011 GDP stood at $34 billion, well ahead of the closest rival economy, Tanzania, with a GDP of $24 billion.
Compared to other African countries, Kenya has very limited arable land and rainfall — but it also boasts the most sophisticated agricultural sector. Horticulture contributes the highest percentage of agricultural gross domestic product (33 percent), followed by food crops (32 percent). Industrial crops and industrial crops contribute 17 percent each. Kenya has consistently done well in horticulture and tea production and export. The horticulture industry has existed since pre-colonial times and continued to flourish when the export market was opened in Europe in the post-independence period.
Kenya is doing better than Tanzania in this industry because of the infrastructural rigidities inherent in Tanzania’s export system. Tanzania produces much more horticulture produce than Kenya but sells very little overseas. Compared to Kenya, Tanzanian farmers grow the produce on a small scale and lack networks to enable them combine their harvest at lower costs when exporting. Additionally, higher freight charges at Kilimanjaro International Airport and Julius Nyerere International Airport in Dar Es Salaam, coupled with inadequate storage facilities at the airports, make it even harder for Tanzania to export. By contrast, Kenya’s Nairobi Jomo Kenyatta airport is well served by major airlines and charter operators, making it easier to access European markets and the rest of the world. The Kenyan government has also supported this sector by ensuring that supply chain bottlenecks are minimized as much as possible by streamlining the process. At the same time, the Ministry of Agriculture has steadily increased funding for irrigation projects and subsidized fertilizers.
Another agricultural product that makes Kenya competitive compared to its neighbors is black tea. Kenya is the world’s number-one exporter of black tea. (Tanzania and Uganda are also major producers of black tea.) Kenya is competitive in tea production and export not least due to the fact that is the home of the Mombasa Tea Auction Center, the second largest tea auction venue in the world, which, among its other advantages, provides direct feedback of market prices to factories and farmers. Additionally, favorable weather conditions and tropical rich volcanic soils result in the production of high grade tea that has a unique flavor, making it the best in the world. Incentives offered by the government, such as value-added tax exemptions, withholding tax holidays for firms that process and package tea, and Export Processing Zones that offer favorable conditions for exporters, make Kenya’s tea industry a competitive cluster in the region and in the world.
In terms of intra-East African trade, Kenya ranks at the top, averaging 37 percent in 2011-2012, followed by Uganda at 24. The intra-regional trade is driven by the manufacturing industry, and particularly the Fast-Moving Consumer Goods (FMCGs) and processed products that are major drivers of the economy. Kenya’s competitive edge in this industry stems from the diversification of its exports basket, which makes it less vulnerable to shocks. Additionally, compared to the region, the country’s transport system, including roads, the Mombasa port, and the airports, is more advanced than those of most other countries in the region (though there are bottlenecks at Mombasa). Kenya, Uganda, and Rwanda have recently started building a superhighway from Mombasa to Kigali that will ease the movement of cargo through these countries. The fact that Kenya is one of the only two East African countries that is not landlocked (the other being Tanzania) gives the country a competitive advantage in terms of international trade. Kenya is also the region’s major exporter and importer with the rest of the world.
Kenya is also very competitive in terms of human capital. It ranks at the top in terms of adult literacy rates. The adult literacy rate in Kenya is 87 percent, followed by Uganda at 73.2 percent, Tanzania at 72.9 percent, Rwanda at 70.7 percent and lastly Burundi’s literacy rate is 66.6 percent. In comparison to other East African countries, meanwhile, Kenya has the highest public expenditure in education at 17.7 percent between 2008-2009 and 2011-2012, compared to Uganda, which spends an average of 10 percent. Education plays a major role in increasing productivity and economic growth and reducing poverty and inequality. Studies comparing the state of primary schools in Kenya, Uganda, and Tanzania conclude that a child from a poor household in Kenya is more likely to succeed than a child from a wealthy household from Tanzania or Uganda. Tanzania exhibits the worst performance among the three East African countries. Kenya also ranks on top in terms of enrollment of students in higher education, followed by Uganda and then Tanzania. In 2012, Kenya enacted the Universities Act, which is aimed at improving the quality of education at all levels by promoting separation of governance of universities and other tertiary institutions and strengthening its technical sector by separating it from the university sector. The Global Competitiveness Index (GCI) 2013-2014 ranks Kenya 44th in quality of education out of 148 countries. By comparison, Rwanda ranks 51st, Uganda 82nd, Tanzania 100th, and Burundi 143rd.
Kenya’s private sector has been more dynamic than that of the other members of the community, which has translated into a more competitive and innovative economy relative to its neighbors. The service sector has been a huge contributor to the growth of the private industry in Kenya. This sector is the largest contributor to GDP growth since 2007 in the country, according to the IMF regional economic outlook for sub-Saharan Africa. Kenya has emerged as a technological and financial hub for East and Central Africa. A major techno-city project is underway in Konza, 40 miles from Nairobi, that aims to reinforce Kenya’s reputation as the regional technology leader in Africa. The project has been dubbed the "Silicon Savannah." IBM also set up its first African research lab in Nairobi, following the likes of Google, Microsoft, and Intel, which also have their regional headquarters in Nairobi.
The Nairobi securities exchange (NSE) is among the best in Africa. Participation of foreign investors in the NSE has always been encouraged and their interests protected since independence. This is demonstrated by legislation such as the Foreign Investors Act of 1964, which aimed to protect foreign investors and allowed foreigners to repatriate their earnings. Several institutional changes have been instituted to strengthen the markets, such as the establishment of the Capital Markets Authority (CMA) in 1990. The CMA’s mission is to protect investors’ interests, promote market development through research of new products and institutions, and ensure proper conduct of all licensed persons and market institutions. The introduction of the Central Depository System in 2004 further reinforced the integrity of the financial system by providing clearing and settlement services in the Kenyan Capital Markets by offering a central custody that enables simplified, swift, and secured services to the investors. Moreover, the automation of the trading sy
stem in 2006 greatly enhanced the efficiency of the Nairobi Securities Exchange. Just recently the NSE announced that it will upgrade its IT infrastructure to support the diversification of trading securities, including derivatives and futures. Market capitalization increased from $453 million in 1990 to $14.8 billion in 2012. Kenya has the most advanced capital market in the region and has over 60 listed companies on the stock exchange. The rest of the East African countries have less than 20 listed companies; Burundi does not yet have a stock exchange.
It should come as no little surprise that, in 2012, Kenya attracted the most private equity deals in East Africa. These involved investments in firms that have not gone public and are therefore unlisted on the stock exchange. The main reason for this large volume of investment is that Kenya is widely viewed as the regional economic hub because of the financial infrastructure that is already in place.
Another area in which Kenya is doing tremendously well in comparison to the other East African countries and the rest of the world is the mobile money services sector. The country is ranked number one in the world in mobile money. Mpesa, the flagship mobile phone banking product, put Kenya at the forefront of mobile money transfers and mobile banking services. Mpesa’s success in Kenya is attributed to several factors: the need to provide a solution to the high cost of sending money from one place to another; the presence of a dominant player in the market (Safaricom), which was able to develop an efficient agent network; and support from the regulatory body (Central Bank of Kenya), which advocated for regulation to follow innovation.
The other East African countries have made considerable strides in mobile money, but serious challenges remain. In Tanzania, the inefficiency of the agent network and the lack of understanding of mobile money applications by potential and current users present a major problem in the mobile money industry. The major challenge in Uganda arises from the fact that the Ugandans lack a national identification system like the one in Kenya. Transferring money thus becomes a challenge.
Kenya boasts a market-based economy and the most liberal economic system in East Africa. A market-based system, among its other advantages, promotes economic efficiency and competition and encourages foreign investment. Since independence, the market structure has changed from one in which prices are influenced by the government to one in which they are determined by the market forces of supply and demand. Kenya has been a pioneer in embracing freedom of enterprise, and this manifests itself clearly in the broadcasting industry, where Kenya Television Network (KTN), the first non-pay, privately-owned TV station in Africa, was founded in Kenya. Liberalization of the agricultural sector was undertaken in the 1980s and 1990s, reducing government’s control of agricultural production and marketing. This led to an environment that encouraged private sector participation in agriculture.
Moreover, building on the African Growth and Opportunity Act (AGOA), Kenya has developed a textile and apparel industry that exports to the United States. AGOA is a law that was passed in the United States that offers incentives for African countries to export to the United States in an effort to build free markets and open African economies. The World Bank recently hailed Kenya’s private sector as the most vibrant and dynamic in East Africa. The Kenyan economy has been market-based for a longer time than all the other East African economies, and this has given it a competitive edge in attracting foreign investment to the country. Kenya has consistently attracted relatively high levels of foreign direct investment (FDI). FDI flows to Kenya have consistently been to transformative industries such as high technology. The recent FDI flows to Uganda and Tanzania are driven by recently discovered resources and are geared towards extractive industries. Kenya is the main source of FDI to its neighbors; outward investments to other countries have increased from $9 million in 2011 to $16 million in 2012. There are big Kenyan companies that operate throughout the East African region (Equity Bank, Kenya Commercial Bank, Nation Media Group).
The recent planning documents issued by the Kenyan government, The Economic Recovery Strategy (ERS) for Wealth and Employment Creation and Kenya Vision 2030 , detail carefully designed strategies that focus on growing and developing the economy. Vision 2030 in particular aims to transform Kenya to a newly industrialized, middle-income country by 2030. It is based on three pillars: the economic pillar, which seeks to maintain and sustain economic growth of 10 percent per year for 25 years; the social pillar, which seeks to invest in Kenyans so as to improve the quality of life in education, health, and housing (among other public goods); and the political pillar, which focuses on moving the nation forward as one and envisions a democratic system that is issue-based, people-centered, results-oriented, and accountable to the public.
In conclusion, Kenya remains a vibrant and promising economy in East Africa, one that is resilient and has the ability to bounce back after political shocks such as the 2007-2008 election violence and the Westgate Mall terrorist attack in Nairobi. There are challenges that the country still needs to address, above all poverty, inequality, and access to health services. The recent discovery of resources such as oil, base titanium, coal, and underground water, augur well for the country’s future economic performance.