Monday, August 28, 2017 1:15 PM / BMI
BMI View: Data for Q117 justify our view for a slowdown in the Kenyan economy in 2017 as economic activity struggles to recover from weak loan growth and agricultural output in recent months. That said, headwinds in 2017 have been largely transitory and growth will accelerate from H217 as a packed infrastructure pipeline continues to attract investment.
Kenya's economy will see a slight dip in growth in 2017 as adverse weather conditions and a cautious lending environment in the first half of the year (H117) weigh on annual headline GDP. The Kenya National Bureau of Statistics (KNBS)'s most recent GDP data release for Q117 indicates the economy grew by just 4.7% year-on-year, down from 6.1% in the previous quarter as the agriculture sector contracted due to weak harvests.
While we do not use the KNBS as a source for our own historic GDP data, the release reinforces our view for a slowdown in economic activity to 5.2% in 2017 from an estimated 5.9% in 2016. Although the headwinds to growth this year are largely transitory and will likely dissipate in H217, the poor performance in H117 will weigh on the year's headline GDP figures.
Real GDP growth will accelerate to 5.9% in 2018 according to our forecasts as the country moves away from these headwinds and investment into a packed infrastructure pipeline buoys the economy.
H217 Recovery Will Not Save Annual Figures
In H217, Kenya's economy will struggle to make up for the weak harvests and low credit growth that affected output in the first half of the year. We have been highlighting the risks to the Kenyan economy in 2017 since the end of last year, when it became clear that the government's decision to cap commercial bank lending rates at four percentage points above the central bank's key policy rate was going to affect credit growth (see 'Growth Outlook Tempered By Tighter Lending', December 9 2016).
Since the cap was implemented, client loan growth in the banking sector has fallen to -0.1% as of February (when data were last made available). We believe that small- and medium-sized enterprises – an important driver of the Kenyan economy – will have been particularly affected as banks have refused to lend to riskier borrowers that cannot be priced into banks' lending rates under the new cap.
Although we believe lending growth will slowly resume as banks adjust to the new lending regulations (we may even see the government widen the cap's margin above the central bank rate), 2017 headline GDP growth will struggle to recover from the impact the cap has had on economic activity in H117.
The agriculture sector tells a similar story, with severe drought in the first half of 2017 affecting harvests and facilitating a 1.1% contraction in Q117. Tea (consistently Kenya's largest export) production fell by 35.5% y-o-y in Q117 and food shortages across drought-stricken countries in East and South Africa pushed up food prices, sending Kenya's core inflation to a peak of 11.7% in May. Furthermore, lower agricultural output and the impact of higher inflation on household disposable income continued to weigh on growth in Q217.
In March, we highlighted that the inflationary effects of poor weather would only be temporary and we have already seen price growth decelerate in June as rains in southern Africa have improved the food supply across Sub-Saharan Africa (SSA) (see 'Central Bank To Hold Rates To Promote Credit Growth', March 8 2017). However, even as Kenya's agriculture sector recovers and prices begin to stabilise, the impact of H117 will be reflected in a weaker print for annual growth in 2017.
Positive Fundamentals To Return Stronger Growth In 2018
As the Kenyan economy moves away from the headwinds that slowed growth in H117, we are confident growth will accelerate in 2018. Kenya boasts a more diversified economy than most of its peers in SSA and continues to attract foreign investment as a result, particularly into its packed infrastructure pipeline.
Under President Jomo Kenyatta a number of large infrastructure projects have been developed with the help of significant financing from abroad, including the flagship standard-gauge railway that connects the port of Mombasa to the country's capital. This investment will continue to underpin Kenyan growth going forward and ensure a degree of stability in the wider economy. As a frontier market running large current account deficits, Kenya is exposed to swings in global sentiment that can result in exchange rate volatility.
However, as shown in 2015, the attractive fundamentals of the Kenyan economy and ongoing investment into infrastructure can sustain robust levels of real GDP growth even as the country's assets depreciate. In 2015, an increase in global risk aversion saw the shilling lose 11.4% against the US dollar while government dollar debt sold off dramatically but continued investment into the infrastructure space helped secure growth of 5.6%.
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