Benjamin Mutinda

External debt is considered a significant source of income in developing countries. Since independence, Kenya has relied much on foreign debt to finance its budgets. To date, this dependence on external resources has become entrenched in financing government projects and operations in the country which has led to an increase in the stock of external debt. There is therefore need to fast track the ongoing restructuring of the economy and promote further growth with the aim of reducing dependence on foreign debt as we fix our eyes in achieving vision 2030. But how sustainable and possible is this challenging path without accumulating more debt?

This study sought to investigate how stock of foreign debt, gross capital formation and final government consumption contributed to Kenya’s economic growth from 1970 to 2009. The study used a simple linear regression function linking movement in foreign debt, final government consumption and gross capital formation to economic growth measured in terms of GDP. Data for the period under study was collected from Kenyan Economic surveys and Word Development Indicators (WDI) publication for 2009. Time series data from 1970-2009 were fitted into the a regression equation using various econometric techniques such as Augmented Dickey Fuller (ADF) test, Engle-Granger two stage procedure co-integration test and Error Correction Method (ECM).
Empirical results from this study reveal that foreign debt has a positive effect on economic growth. Compared to other macro-economic variables used in the study, this effect of foreign debt to economic growth is insignificant. The study results also reveal the final government consumption expenditure and gross fixed capital formation positivelyaffect Kenya’s economic growth.
From the results above, the study recommends that the government should reduce reliance on foreign debt by maximizing collection of tax revenue to finance recurrent and capital expenditure. There is need to vet capital investments that are to be financed through foreign debt, conduct proper cost benefit analysis to ascertain whether they are economically viable. Controls should be put in place for income generating projects to minimize income leakages and underutilization of available resources. Debt contracted for the income generating projects should be negotiated such that debt repayment starts after commissioning of the project to ensure that some of the revenue generated is used to repay the debt. The government and the private sectors should continue with structural reforms needed as a catalyst to sustain higher growth rates to avoid a misallocation of external debt between the government and the private formal sector. The government should apply monetary and fiscal policies to tame the volatile exchange rates between the local currency against major foreign currencies.