Consumers and businesses in Kenya can expect relative stability in the coming months in key macro-economic indicators - inflation, interest rates and exchange rate - triggering strong consumer demand and increased economic growth.

In its latest survey on market conditions, the Central Bank of Kenya (CBK), showed that business executives expect inflation to remain constant on account of anticipated stability in food prices and the foreign exchange rate.

The outlook dims hopes of a drop in lending rates and inflation and consumers should brace themselves to live with the current economic conditions for the better part of the year.

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Banks and private firms expect the exchange rates to be supported by increased foreign exchange inflows through foreign direct investment and a rise in Kenya’s exports and tourism and diaspora remittances, the survey seen by The EastAfrican shows.

The optimism by business leaders and the relative stability of the economy is expected to trigger confidence among consumers whose purchasing power has been hurt by recent increases in value added tax (VAT).

A high level of confidence is usually a positive indicator of future growth because the more optimistic business leaders are, the more likely they are to expand their enterprises, employ more people, enter new markets and introduce new products.

Higher spending by consumers is likely to lead to increased borrowing from banks, giving financial institutions income for growth.

But business executives, especially manufacturers, are still uncertain about spending, citing a difficult business environment.

A survey by the Kenya Association of Manufacturers (KAM) shows that 54 per cent of its members are unwilling to authorise more capital expenditure this year, a rise from last year’s figure of 46 per cent.

Members cite internal factors like unwillingness by boards to sanction expansion on account of falling demand, and a tough operating context triggered by unfavourable macroeconomic and regulatory environment.

The new orders index stood at 29.5, and the index measuring trends in the placement of new orders for the last three months stood at 43.5. This indicates a reduction in demand for locally manufactured goods. The average price indices on orders booked and purchased were above normal, standing at 54 and 66 respectively.

“To buoy the industry, there is need to reform the fiscal policy framework, especially on business taxes that are unfriendly to the market and by eliminating multiple regulations by counties. There are overlapping responsibilities and counties are using licences and charges to raise revenue. Currently the business regulatory framework imposes high transaction costs on local businesses,” said Betty Maina, the KAM chief executive.

However, this state of affairs could be tested with the commencement of the tapering of quantitative easing by some advanced countries, especially the US, which could affect capital flows and cause volatility.

The US plans to start reducing the purchases of long-term Treasury and mortgage-backed securities to cut borrowing costs and pump cash into the system.

Currently, the US spends $85 billion on these purchases per month. The Fed’s asset purchase scheme makes the US less attractive to investors, and, with the advent of tapering, the country could start attracting more foreign investors diverting them from economies like in Africa.

The majority of banking executives polled by the CBK said they expect lending rates to remain stable or to decline in 2014 due to the issuance of a sovereign bond by Kenya as well as increased competition.

“But pick-up in economic activity could lead to increased demand for loans which could exert some pressure on interest rates,” said the CBK in the Market Perceptions Survey.

The $1.5 billion bond, planned for this quarter ending March, is expected to lower government appetite for domestic funding. This could result in the benchmark yields on Treasury bonds falling, and increase commercial banks’ appetite for private sector lending lowering interest rates.

“The main risks perceived to inflation are volatility in international oil prices and the likely increase in demand pressure in the economy with pick-up in economic activity,” said the regulator.

The growing optimism from the country’s private sector is mirrored in a report released by consulting firm PwC, which shows that 83 per cent of the country’s CEOs expect revenue growth over the next 12 months. The anticipated surge in credit uptake comes at a time when lending rates in Kenya are almost at a two-year low.

Lenders continue to cut their rates, on the basis of improving economic indicators. Average lending rates are at about 16.96 per cent, a level last seen in 2011.

READ: Era of cheaper money here as rates hit two-year low

Last week, the CBK held its benchmark lending rate at 8.50 per cent for the fourth time in a row, claiming that inflation was steady and within government targets.

Year-on-year inflation fell to 7.15 per cent in December, from 7.36 per cent a month earlier, within the government’s target of 3.5-7.5 per cent. Banking executives expect an average annual rate of about 7.32 per cent this year, and private firms expect a rate of about 7.10 per cent.

However, the CBK survey says the main risks to this inflation outlook include volatility in international oil prices, an expected increase in demand with pick-up in economic activity, and an increase in government expenditure with normalisation of the devolved system.

Independent economists see similar risks.

“The planned Eurobond issuance could trigger a significant rally in the domestic bond market by the second quarter of this year [April-June], as issuance of local-currency bonds is reduced significantly. The risk to this view stems from the recent supplementary budget, and reliance on additional borrowing rather than spending re-prioritisation for its financing,” said Razia Khan, head of Africa research at Standard Chartered Bank.

According to the MPC survey, on average, banks expect to increase credit by about 25.5 per cent, while demand from the private sector is expected to increase by about 21.5 per cent.

This projected growth is attributed to increased demand for credit from SMEs as well as the continued rise in economic activity that are expected to drive the credit growth.

READ: Kenya poised for strong recovery in early 2014

“All indicators are positive that 2014 will be a much better year than 2013, which closed on a high note despite the economic ups and downs. We have revised our growth plans to accommodate opportunities brought about by devolution in Kenya. I have no doubt that economic opportunities arising from the counties will be our biggest bet as we seek to grow our branch network locally,” said Atul Shah, the CEO of Nakumatt Supermarkets.

The Kenyan shilling has remained stable over the last six months, trading within a margin of Ksh87-87.5 against the dollar. Analysts expect it to remain within this range, held by strong diaspora inflows as well as proceeds from the country’s planned $1.5 billion Eurobond.

“It is a good year, but the economy faces new constitutional teething problems. Other developed countries passed through them and we should be brave to face these tough times,” said Nelson Kuria, the chief executive at CIC Insurance.

Executives polled by the CBK said the stability in the key macro-economic indicators should give the economy some breathing space to grow this year. While both banks and non-bank private firms expect a strong growth pick-up this year, the latter are more optimistic.

Non-bank firms and banks expect an average growth of 6.2 per cent and 5.73 per cent respectively, up from their expectations of about five per cent in October when the last survey was conducted. But both cited insecurity and slow recovery of the global economy as the main risks.

The CBK polled executives from all commercial banks, eight deposit taking micro-finance institutions and 130 non-banking private firms.

“Kenya’s growth prospects are favourable, with growth expected to pick up. Activity will benefit from the boost to private-sector confidence, following largely peaceful elections in 2013. Inflationary pressures should remain modest given the favourable weather outlook,” said Ms Khan.

But even as the country’s private sector continues to exhibit optimism, the economy faces challenges like devolution.

For example, in the first three months of the 2013/14 financial year ending in September, the country’s 47 counties only spent 4.7 per cent of their planned annual budget, a figure that dwarfs the central government’s target of 25 per cent spending each year.

Considering the economic stimulus provided by government spending, experts see the poor spending as a threat to the country’s growth forecast.

“Assuming that it overcomes the transitional issues that hindered spending in 2013 and continues to implement structural reforms that make it easier to do business, it should grow at 5.1 per cent in 2014 and 6.0 per cent over the medium term,” said the World Bank in its latest assessment on the Kenyan economy.

“Domestically, the fiscal risk from the burgeoning wage bill, inadequate implementation of the devolution process and poor absorption of budget funds could dampen GDP growth,” the World Bank said.

The Kenya Revenue Authority (KRA) said it collected Ksh600 million ($7 million) above the Ksh470.2 billion ($5.4 billion) target it had set for the first six months to December.

To prevent wastage of available resources, the government has embarked on cost cutting measures including freezing of hiring and reducing the size of government entourages during officials trips. The austerity measures are expected to save the exchequer Ksh123 billion ($1.47 billion) in the next five months.

The devolution process is sending jitters among investors as counties impose new levies and regulations on doing businesses.

“Investors might hold back to see the direction the devolved government takes with counties introducing new taxes,” said Jane Ngige, the chief executive officer at the Kenya Flower Council.  

By Peterson Thiong’o and Scola Kamau