In a move aimed at shielding consumers from foreign-exchange volatility — one of the components that contribute to high electricity costs — Kenya will start using the local currency in power purchase agreements (PPAs) between investors and the utility firm, Kenya Power.
Although Kenyans are paying for electricity in shillings, they bear the burden of paying for forex adjustments for projects financed in hard currency which are passed on by Kenya Power every month.
“It is important to insulate consumers from exchange rate fluctuations. This will be possible if we use local currency in financing energy projects,” said Energy Principal Secretary Joseph Njoroge.
All projects in the energy sector are currently priced in hard currency, mainly the US dollar.
Kenya believes that transiting the local currency will also open new opportunities for local banks, insurance companies, pension schemes and fund managers to participate in energy financing.
The country, however, will be walking into uncharted waters in East Africa after an attempt by Tanzania to transition to local currency-denominated PPAs in 2008 flopped, primarily due to market perceptions around offtaker creditworthiness, as well as a lack of depth in the domestic capital markets.
After a period of limited investment in independent power producers (IPPs), Tanzania transitioned back to dollar-denominated PPAs in 2014.
South Africa is the only country in Africa that has successfully managed to implemented a local currency regime for renewable energy IPPs, which have added 3,052 MW capacity to the grid in the past seven years, with 86 per cent of debt raised locally from 2012-2014.
In the majority of developed economies, power projects are financed in the local currency.
A study on local currency-dominated PPAs says Kenya would benefit significantly by transiting to such deals, in terms of predictable power bills and deepening of capital markets.
“A hard currency regime leaves Kenyan consumers, and the economy at large, vulnerable to external shocks and fluctuations in the value of the shilling. These risks to consumers would be reduced or eliminated under a local currency tariff structure,” notes the study conducted by Dalberg Advisors and funded by GuarantCo, a firm that mobilises local currency investments in infrastructure projects.
The adoption of local currency would also ease the pressure on Kenya’s runaway public debt, which has risen sharply over the past few years — from 44 per cent of GDP in 2013, to 53.1 per cent in 2016; it currently stands at around 55 per cent.
“If depreciation of the shilling were to sharply increase, a local currency regime would result in significant cost savings to the Kenyan consumer,” notes the study.
It adds that Kenya has the ability to immediately transit to the local currency regime by ensuring that PPAs for all project with a 10 MW capacity are fully denominated in local currency.
“Given their size, these projects can be financed comfortably in local currency by local banks and institutional investors,” the study notes.
“For those above 10MW, a hybrid tariff with partial indexing to hard currency is the most viable option because it minimises risks for IPPs where project operating expenditure costs are partially incurred in hard currency.”
It is estimated that over the next 10 years a staggering $44 billion will be available in local currency, funds which investors in the energy sector can tap to finance projects instead of seeking foreign financing.
“Using local currency to fund energy projects will open opportunities for Kenyans’ participation in and ownership of energy projects,” said Mr Njoroge.
The need for local currency in energy financing comes at a time when Kenya is encouraging private investment in generation projects to meet growing electricity needs.
The country’s ambitious plan of raising electricity capacity from the current 2.4GW to 22.7GW by 2030 is pegged on producing cheaper sustainable energy, particularly from small hydros, wind and solar.
Kenya is also looking for private investors to pump resources into transmission lines owing to the fact that the government is resource-constrainted, making it impossible for the state-owned Kenya Electricity Transmission Company (Ketraco) to accelerate projects.
The company, which is implementing several transmission lines totalling about 5,000 km at a cost of $2.5 billion, largely depends on the government for financing either directly or through government-guaranteed debt from foreign governments and development finance institutions.
It needs about $3.5 billion to develop over 11,000 km of high voltage transmission line over the next 13 years.