Month: January 2015

Low oil prices are good, but let us watch the dollar

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This article first appeared in my weekly column with the Business Daily on January 25, 2015

Oil prices have fallen by more than half from the mid-2014 peak. Most look at this as a positive development for Kenya, but they are missing an important point; there is a link between low oil prices and a strong US dollar.

Analysts have long observed the correlation between low crude prices and a strong dollar.

Why does this happen? The answer is unclear. But one explanation is that when there is plenty of global liquidity and returns from traditional financial assets are low, large amounts of money are shifted to commodity markets and the oil market in particular, thus oil prices go up.

In the inverse case, when the prospect of returns from traditional financial assets is elevated, money is shifted out of commodity markets such as oil, leading to a decline in price.

The US is on the mend as will be discussed below, and this raises prospects of good returns from traditional financial assets and this may be a factor that explains how a strong dollar puts downward pressure on oil prices.


The inverse relationship between crude prices and the dollar will have an impact on the Kenyan economy, but which will carry the day?

According to an analyst interviewed by Reuters, the negative effect of the stronger dollar on global liquidity outweighs the positives from falling oil prices by a ratio of 10 to 1.

Let’s look at the effect lower oil prices can have on Kenya’s economy. Inflation should fall and so should the Current Account Deficit (CAD).

Additionally, lower oil prices are associated with stock surges in the country and portfolio investors targeting Africa are now focusing more on oil-importing countries such as Kenya and looking away from oil-exporting countries.


But Kenyans should also look at the other side of the equation; a strong dollar.

Behind the rise of the dollar are important related factors. Firstly, the US economy is recovering with positive growth prospects while forecasts for other developed economies in particular are being revised down.

The US GDP (annualised) grew 4.6 per cent in Q2 and 3.5 in Q3 while there are concerns about deflation in Europe for example.

There is also a reported improvement in the US current account deficit and some argue that more tension between and Ukraine and Russia could not only further dampen growth in Europe, but this uncertainty could make the Euro even more unattractive for investors pushing them to US dollars.

Kenya faces numerous problems if the trend of the strong dollar continues. To begin with the strong dollar is rising in the context of a weakening Kenya shilling due to low demand for shilling-backed investments (bad for stocks and local debt issues).

Additionally, some imports will become more expensive for Kenya, which is an import economy, thereby placing upward inflationary pressure on the economy (which may counter the deflationary power of low oil prices).

On top the strong dollar will strain the CBK’s capacity to continue injecting dollars into the economy without running down its own foreign exchange reserves.


Finally, Kenya’s dollar denominated debt will be more expensive to service and paying back a strong currency in a weak one is a sombre combination.

Thus although low oil prices are a welcome development, the association with a strong dollar has an ominous undertone for the economy of which Kenyans should be aware.

The implications of the end of US QE for Africa

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This article first appeared in The East African on January 25, 2015

The US economy is in recovery, having recorded an annualised GDP growth rate of 4.6 per cent in Q2 and 3.5 per cent in Q3 of 2014.

In addition, the period of quantitative easing (QE), which flooded the global markets with dollars, has come to an end. This effectively withdraws $85 billion of net stimulus each month.

Further, the Federal Reserve looks set to increase interest rates in 2015 after a prolonged period of near zero interest rates. In addition to this, the dollar is strengthening. What does this all mean for Africa?

One effect may be that the aggressiveness with which investments in Africa were sought will wane noticeably. Due to the near zero interest rates in the US and other developed markets as well as the US Fed’s QE, excess liquidity had to look for points of absorption.

As a result, investors were more willing to look farther afield for investments, thereby providing speculative capital flows to countries in emerging markets in particular. In fact, this phenomenon may be a factor behind Kenya’s Eurobond oversubscription.

With the end of QE, global dollar liquidity will lessen and this will mean money flowing into Africa and other emerging markets will taper off.


Couple this with the expectation of a rise in US interest rates and you have a phenomenon where dollars will run back to the US making them much harder to attract for countries in Africa.

Indeed, now that the US is recovering and the expectation is that an interest rate hike will soon happen, the value of assets in which speculative investments were made in emerging markets may decline in value.

Why? The IMF states that US policy led to a “global search for yield with investors flocking into emerging markets contributing to a broader mispricing of domestic assets.” Now with the end of QE in sight and a recovering US, the value of the assets in which dollars were invested will lower in value. In short there may be deflationary pressure on many asset classes in developing country markets.

Further, far fewer speculative investments may occur because of rising global risk aversion, thereby restricting cheap dollar access for African economies.

The IMF makes the point that the mere announcement of an end to QE led to “rapid currency depreciations, increases in external financing premiums, declines in equity prices, and reversal in capital flows” in some emerging markets.

Another point to consider is made by DK Matai of Quantum Innovation Labs who states that there is a near $8+ trillion in US dollar carry trade.

Carry trade refers to strategy in which an investor borrows money at a low interest rate in order to invest in an asset that is likely to provide a higher return.


Matai makes the point that, “Of that $8+ trillion, $5.7 trillion is emerging market dollar debt… split between $3.1 trillion in bank loans and $2.6 trillion in corporate bonds.”

So there is a global dynamic going on in which “$8 trillion in borrowed US dollars is now being reversed-back into US dollars to repay debts around the world and thereby reduce the dollar-denominated interest payments.”

In short, those who made investments in continents like Africa at low US interest rates will be racing to pay back that debt before the anticipated interest rate hike is made by the US Fed. Given the scale of debt given to emerging markets, this repayment of debt will make dollars less available, strengthening the dollar and reducing liquidity even further.

So, Africa needs to brace for tougher times in the short to medium term as an end of QE and an anticipated hike in US interest rates means “risky” African investments will not be as attractive as they used to be.

Complicating this melange of factors are tumbling oil prices. Low oil prices are associated with a strong US dollar. The current account and government expenditure of African countries for which oil exports compose a significant portion of revenue will be negatively affected.

Further, due to the strong dollar, African currencies will be losing ground, particularly those of countries such as those in East Africa whose currencies are actually weakening anyway as well.

Thus, although African import economies will benefit from low oil prices, which should have a positive effect on current account deficits, a strengthening dollar and weakening local currency will mean that imports are more expensive, thereby countering the lowering of inflation that low oil prices may have encouraged.

Therefore Africa, at least in the medium term, may increasingly turn to China to sustain capital flows strengthening the Look East creed of many African governments.


On the other hand, on Thursday the European Central Bank announced a QE programme that will pump out up to Euro 60 billion a month. There is a chance that Africa can benefit from this, especially in light of the end of QE by the USA.

Let’s see how African governments and markets respond to what is an interesting blend of dynamics.

Political factors key in market performance

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This article was first published in the Business Daily on January 18, 2015

In his book The End of the Free Market, Ian Bremmer makes the point that “in emerging markets, political factors still matter— at least as much as economic fundamentals for the performance of markets.”Certain retrogressive practices if left unchanged can harm economic growth by dampening development prospects.The first political factor is tribalism. As a result of divisive ethnic-based politics, the economy continues to suffer consequences of negative ethnicity.The costs of tribalism are numerous.


For example, it leads to sub-optimal allocation in public sector appointments. Because the President is now expected to factor in tribes during decision-making, he does not have the luxury of choosing the best person for the job. Instead he appoints individuals who would be accepted with the least acrimony.This is not to suggest the appointees are incompetent but rather to illustrate how tribal lens affect capacity to ensure the best always manage agencies.Recently it was revealed three tribes hold at least half of all public sector jobs, with some overrepresented compared to their total population.Whether this over representation was deliberate is an issue that disturbs many Kenyans. So strong is tribalism that the Public Service Commission chair said ethnicity is an appointment criterion to ensure all tribes need to be represented fairly.Political and public sectors are at a point where tribe trumps demonstrable skills, professionalism or competence.How can a government run efficiently if tribe rather than aptitude is a key qualification to manage the ministries, Central Bank, parastatals and other agencies that inform growth?


Another issue closely linked to ethnicity can be seen in how individuals decide whether to invest in certain regions while shunning others.During the post-election violence in 2008, many flourishing businesses were shut down as owners fled hostile regions.The losses are still being felt by the economy because some entrepreneurs are yet to return. Such tensions have economic costs because ethnicity rather than economic viability informs location.

The second political factor is corruption. The public sector is rife with corruption, brunting the capacity of capital to be employed efficiently to spur growth and development.Transparency International ranks Kenya 136 out of 175 in public sector corruption. Graft is costly as it affects resource allocation in two ways.Firstly, it can change private investors’ assessment of the relative merits of various investments as graft informs changes in comparable prices of goods and services, resources and factors of production.The International Monetary Fund believes if bribery comes into play in enterprise, this lowers investment and retards growth. Ernst and Young reported a third of companies it surveyed paid bribes to win contracts and half of Kenyan CEOs justified the practice.How can resources be allocated efficiently with such shadowy activity?


Secondly, an economic journal shows corruption misallocates resources through decisions on how public funds are invested, or choice of private investments allowed by corrupt agencies.Misallocation comes from possibility of a corrupt decision-maker considering rent-seeking as a key decider.Corruption leads to reduced domestic and foreign direct investment, overblown government expenditure as well as diverting state expenditure away from education, health, and infrastructure towards white elephants.

The third political factor is the public wage bill reportedly now at 53 per cent of the budget, using up 55 per cent of public revenue.This is likely to remain for decades as there is no political will to effect change. Thus, instead of allocating resources to investment or development, we will be busy funding a public sector yet to shun corruption or embrace a culture of efficiency.These political factors cost the economy dearly and their impact must be addressed.

What the latest economic growth data in Kenya really mean

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This article was first published in the Business Daily on January 11, 2015

Last year’s Q3 gross domestic product (GDP) figures show the economy expanded by 5.5 per cent compared to a revised 6.2 per cent in the same period in 2013. The growth was mainly supported by strong activity in construction, finance and insurance, trade, information and communication, and agriculture and forestry.All sectors recorded positive growth except accommodation and food services (hotels and restaurants) that have consistently been on a decline since last year.


But what do these growth figures really mean? Underlying the GDP growth snapshots are some long-term structures that should be analysed and of which Kenyans must be cognisant.The first question is the extent to which all Kenyans are benefiting from growth. The latest UN Human Development Report ranks Kenya 147 out of 187 countries and although there has been a rise in human development since the 1990s, only a small section of the population has gained.To illustrate, the incomes of the richest 20 per cent have risen steadily and now stand at 11 times more than those of the poorest 20 per cent.In fact, a country report by the Africa Development Bank states that the biggest challenge is not raising GDP but ensuring inclusion.There is a widening gap between the rich and poor with the creation of a dual economy where the rich prosper and the poor continue to struggle.This can be attributed to an underdeveloped social security net that does not provide consistent and sufficient income support to the poorest.The core concern with inequitable growth is not just the ideological issues around fairness and justice but the reality that while the poor have a high propensity to consume, they lack the disposable income to engage in many of the spending and profit-making activities that spur investment and growth.


As a University of Nairobi analyst said, this creates a vicious cycle in which low growth results in high poverty that in turn abets low growth.Today, each of the 42 million Kenyans would earn Sh189,624 ($2,158) yearly if income was distributed equitably. Sadly, the manner in which GDP growth is currently structured only encourages economic dualism.In addition, the growth structure ensures that the youth are at best fringe beneficiaries of the economic largesse, which elicits the feeling that they are in a no-win situation with the older generation.The International Labour Office (ILO) points out that while young women and men account for 37 per cent of the working-age population, their participation in employment is less than 20 per cent.Due to difficulties in securing jobs, the youth feel the best option is to leave the labour market. This leaves them more vulnerable to chronic unemployment or eking out a living in a tough economy.The result of this skewed system is frustration and dissatisfaction, coupled with security concerns as the jobless youth engage in crime to survive. Their exclusion from mainstream economic activity can create discontent and another “Arab Spring”.


Linked to the youth issue is the fact that these relatively healthy GDP figures mask the reality of jobless growth. This is where the economy experiences growth amidst decreasing employment.Indeed, the ILO released a report last year stating little progress is being made in reducing working poverty and vulnerable forms of employment such as informal jobs and undeclared work.Unemployment in Kenya stands at more than 13 per cent, masking the enormity of the labour market challenges where a significant proportion of the population is inactive rather than unemployed. Of the employed, many are engaged in informal jobs.So while GDP figures are important, it is crucial we foster equitable and inclusive growth as well as develop job creation strategies to address the burgeoning chronic unemployment and underemployment.

Is impact investment the answer to Kenya’s socio-economic challenges?

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Kenya is being sold the idea that impact investment that goes beyond the profit motive alone and instead seeks to generate triple bottom line returns namely social, environmental and financial, is the smartest way to structure investment into the continent. It is argued that the triple bottom line focus is warranted given Kenya’s socioeconomic issues which range from poor health and education services, to poor infrastructure, environmental issues, inadequate housing, water and sanitation structures and a healthy representation of low income citizens in the general population.

The Rockefeller Foundation states that, ‘Impact investing could unlock substantial for-profit investment capital to complement philanthropy in addressing pressing social challenges’. In terms of market size some argue that the industry could grow from around US$50 billion in assets to US$500 billion in assets within subsequent decades. Clearly this is becoming a big deal globally and already in Kenya there are numerous impact investment activities on the ground funding enterprises that seek to generate triple value. Bear in mind that Corporate Social Investment (CSI) is often not considered impact investing as the core focus of the corporation is profit not mission and CSI is a conduit of funds into social activities that do not inform core business. There is a spectrum along which impact investments lie; on one hand are those that are more mission oriented and on the other end are those that are more profit oriented but both share a commitment to generate economic, social and/or environmental (hereafter ‘social’) returns.

trico-2But is marrying impact and profit realistic? Some argue that Nairobi has already hit an impact investment bubble where, ‘too much money chases too few investment-ready companies, weak performers are propped up when they should really be driven out of business by superior competitors’. From a logical point of view, impact investment makes sense and if such investments do deliver triple returns it is an effective one in all pill for Kenya’s holistic development. Further, given Kenya’s weak regulatory framework and even poorer implementation of policies and law, it is a good idea to welcome investors who seek to work honestly, responsibly and with economic and social development in mind. Some companies pollute the environment, defy labour laws and exploit local communities as they conduct business and the truth is that they can get away with it because even if there are laws in place to prevent such phenomena from occurring, corruption and kickbacks means business can get away with unsavoury behaviour. Thus welcoming ethical investors creates an automatic buffer against such delinquency. In addition, when social financing is done in partnership in communities­­ to build their entrepreneurial capacity to tap into their resources, develop assets and ensure assets benefit and are owned by the community, some dramatic socioeconomic graduation can occur. Impact investors are already active in Kenya are scaling up SMEs and strengthening the positive social and environmental footprint of the business in which they invest. This is an industry that is set to grow in the country and this provides the incentive to better understand how it functions. CSI21One problem with impact investing is that the definition given in this article is one of many. For an industry that wants to scale, there is no consensus on what qualifies as impact investment. For example, some argue that impact investors have to expect a lower than market rate of financial return because those with market rate returns should be easily absorbed by the market. Others, such as the UN, define impact investing as any investment that has the intent to create benefits beyond financial return. The problem with ambiguity with basics such as definitions is that any enterprise can masquerade as an impact focussed investment and give a distorted representation of how big the impact market it. Further, as Stanford Social Innovation Review states, it creates, ‘a lot of confusion about when impact investing works and when it doesn’t’. So how can Kenya be sure we are benefitting from impact investment when no one agrees on what that exactly means? Secondly, categorising certain investments as ‘impact investing’ insinuates that other types of investment do not make any impact beyond financial gain. Yet we know that SMEs all over the country, especially those active in poor communities, do not self-identify as impact enterprises, yet they are creating impact in their communities. They provide employment for thousands, support the development of employees and even provide medical care for them. Yet they do not formally fall under the umbrella of impact investment. It makes one wonder whether impact investment is a just a new trend to mop up excess liquidity. Impact-Investing-Returns-300x236Another concern is that trying to marry people, planet and profit is not always profitable, especially when dealing with genuinely poor communities that have little market power and many needs. Such communities are the ones that need low cost services the most, yet , ‘delivering at a price point the poor can afford almost always translates into very small margins’ meaning that impact businesses often have to be subsidised over long periods of time. Therefore, are they viable market players? Many impact investments need subsidies which, may be prolonging the life of poor business ideas and products. Further, a chronic problem in the impact industry is the difficulty in measuring and demonstrating impact. There are so many models available on how to measure impact and different impact investors use different models thereby generating different, incomparable data sets. So how can one call it impact investment if measuring the impact has not been truly sorted out in a manner where comparisons between projects can be made? Making-Impact-Logo So clearly impact investment is a mixed bag. It is a commendable approach to investment that Kenya should seek to benefit from while cognisant of the pitfalls.