Role of the Private Sector in the Economy

The private sector in Kenya plays a fundamental role in the economy. The sector contributes about 80[1] per cent of Gross Domestic Product (GDP), provides 70 per cent of total employment and is a key source of the country’s export (World Bank, 2019). Cognizant of the critical role that the sector plays, the Government continually endeavors to provide an enabling environment for the private sector to thrive by addressing the constraints that hinder their growth and development.

Besides providing an enabling environment for the private sector to thrive, the Government is also a consumer of goods and services provided by the private sector, including Small and Micro Enterprises (SMEs), and firms owned by women, youth and Persons with Disabilities (PWDs). From the 2018 World Bank Enterprise Survey for Kenya, 19 per cent of the firms surveyed in the private sector had government contracts for provision of goods and services. The survey further shows that most firms that secured government contracts were small firms at 40 per cent, followed by medium firms at 35 per cent, and large firms at 25 per cent, and that about 9 per cent of the firms with Government contracts received the contracts under affirmative platforms.

 

Manifestation of Pending Bills in the Kenyan Economy

Business transactions between the Government and private sector firms in Kenya is characterized by prevalence in pending bills[2]. Data from the 2018 World Bank Enterprise Survey shows the existence of pending bills by the Government, with about 12 per cent of the firms surveyed reporting that they had contracts with the Government which were late for payment. The World Bank Report[3] on the state of Kenya’s Economy indicates that the total value of pending bills had increased from 0.9 per cent of GDP in the 2015/16 financial year to 1.6 per cent in the 2017/18 financial year.  This means there has been a buildup in pending bills in the economy over time as a result of delayed payment by the Government. This build up affects the overall liquidity of the private sector, hence the overall economic growth.

A special audit was done by the Office of the Auditor General (OAG) on the status of pending bills in Kenya as at 30th June 2018. The results of the audit are in line with findings from the World Bank Report, and World Bank Enterprise Survey for Kenya. More specifically, the audit revealed that there had been an accumulation of pending bills both by counties and by the National Government. The total value of pending bills reported at county level was Ksh 88.98 billion, while the National Government had pending bills worth Ksh 58.2 billion.

The audit further categorized pending bills into two: eligible pending bills; and ineligible pending bills. Eligible pending bills are unsettled financial obligations that occur at the end of a financial year as a result of failure to pay for goods and services that have been properly procured. Results from the audit presented in Figure 1 shows that County Governments had higher eligible pending bills at 57.5 per cent while the National Government had only 25.8 per cent of the total pending bills, categorized as eligible pending bills. All eligible pending bills were recommended for payment by the OAG.

Ineligible pending bills had audit queries and lacked proper documentation to support the delivery of goods and services by firms. It is interesting to note from Figure 1 that ineligible pending bills were prevalent at the National Government, representing 74.2 per cent of the total value of pending bills compared to 42.5 per cent at county level.  

Figure 1: Pending bills by County and National Government as at June 2018

Source: Authors’ calculations based on data from National Treasury, 2019

Accumulation of Pending Bills and Implications

The prevalence of ineligible pending bills is of concern since such bills are not recommended for payment by OAG. This means that firms with bills that are categorized as ineligible pending bills face the risk of not being paid at all for the goods and services they delivered to the Government.

Literature[4] shows that persistent increase in pending bills adversely affects the economy in three ways: First, by changing the present discounted value of payment by firms, the existence of pending bills reduces profitability for firms which trade with the Government and other firms through a ripple effect. Second, pending bills worsen liquidity constraints for firms and may either drive them into total bankruptcy, or increase their likelihood of defaulting on loan payment. This in turn reduces the size of the private sector, especially when the liquidity constrained firms shut down and at the same time affect the banking sector by increasing the number of Non- Performing Loans (NPLs). Third, a higher failure rate of firms may increase the cost of capital due to an increasing risk premium. This makes firms revise the price of goods and services upwards to factor in the high cost of capital, ultimately increasing the cost of goods and services both for the Government and other economic agents.

Experience of the Private sector in Kenya

As literature states, the private sector has been adversely affected by the accumulating pending bills. The sector in April 2019 brought to the attention of the President the impact of pending bills on their operations with emphasis on the ripple effects that the bills have on the primary supplier of goods and on other firms who trade with the affected primary firms. Through the Kenya Private Sector Alliance (KEPSA), the sector reported that in general, pending bills had led to decreased liquidity, increased bankruptcy, and a decline in profits which has in turn led to closure of some SMEs.

In a similar vein, the hotel industry through Western Kenya Hospitality Leaders Association noted that the delayed payment by county governments had paralyzed operations in most hotels. Many hotels rely on domestic tourists, events and conference which are organized by County Governments. With delayed payments by counties, their financial positions had worsened, making it difficult for them to pay both their suppliers and other operational costs.

The banking sector has also been affected by the persistent accumulation of pending bills. An analysis of the trend in Non-Performing Loans (NPLs) by the Kenya Bankers' Association[5] shows that banks have exhibited an upward trend from 9.6 per cent in 2016 to 12.0 per cent, and a further increase to 12.3 per cent in 2019. A plausible explanation for this could be that some firms, faced with credit constraints, borrow from banks and other financial institutions to supply goods and services to the Government. Failure on the Government to honour payment for these goods and services derails these firms from servicing loans they have borrowed from banks, ultimately increasing non-performing loans.

The experience of the private sector in Kenya as a result of the upward trend in pending bills has thus been consistent with previous literature, which shows an inverse relationship between the accumulation of pending bills and private sector performance.

Interventions to Resolve Pending Bills in Kenya

Following the outcry by the private sector, the President gave a directive for all pending bills that did not have audit queries to be cleared by June 2019. Based on this directive, the National Treasury has in the recent past made effort to avail resources for County Governments to clear pending bills. By December 2019, about Ksh 112.04 billion had been cumulatively released to the County Governments as equitable shares raised nationally and Ksh 4.08 billion as conditional grants in the 2019/20 financial year as allocations from July to November for all counties in full. More recently, in light of the Coronavirus epidemic, the President on 20th March 2020 gave a directive for the Government to clear all pending bills to the private sector.

Counties have also made considerable progress towards settling pending bills with the disbursement made to them by the National Treasury. They spent about 25 per cent of the funds they received from the National Treasury between July 2019 and December 2019 to pay eligible pending bills with the objective of easing liquidity for firms. As a result, as at December 2019, eligible pending bills worth Ksh 28.37 billion had been paid by the County Governments while the National Government had settled eligible pending bills worth Ksh 10.8 billion as shown in Figure 2. The National Government had paid 72 per cent of its pending bills whereas County Governments had only paid 55.8 per cent of their eligible pending bills. It is worth noting from Figure 2 that both levels of Government still had outstanding eligible pending bill balances, which stood at Ksh 22.71 billion for counties and Ksh 4.2 billion for the National Government.

Figure 2: Eligible pending bills by County and National Government as at December 2019

Source: Authors’ calculations based on data from the National Treasury, 2019

The National Treasury has played a proactive role in ensuring pending bills are cleared. In line with this, it has availed resources for County Governments to clear pending bills and stated that it will peg future disbursement to counties based on evidence of paid-up pending bills as outlined in the County Government Payment Plans, which counties are to submit to the National Treasury and the Controller of Budget. As a result, some counties had cleared their eligible pending bills as at December 2019 as shown in Table 1.

Table 1: Counties, Ministries Departments and Agencies that had cleared eligible pending bills as at December 2019

 

Other measures that the National treasury has taken include conducting on-sight training to procurement officers and accounting officers on pending bills solution. The training equips the officers with skills to capture pending bills at the beginning of every financial year and make payments from authorized list of pending bills without requesting authorization from the National Treasury. The training is also instrumental in facilitating tracking and monitoring of County Government list of pending bills to ensure transparency and accountability in recording and payment of eligible pending bills.

To address the issue of ineligible pending bills in counties, the Inter-governmental Budget and Economic Council (IBEC) through a resolution of 18th June 2019 instructed all county governments to establish an Eligible Pending Bills Resolution Committee to verify and prioritize the payment of eligible pending bills in the 2019/2020 financial year. A statement released by the National Treasury and Planning in December 2019 mentions that all counties have established this committee, and that all firms whose bills had been classified as ineligible are working with the committee to facilitate payment of these bills within the 2019/2020 financial year. At national level, the ineligible pending bills have been forwarded to the Multi-Agency Team for verification and further action. 

To deter further accumulation of pending bills, KEPSA proposed to the President that the Public Finance Management Act, 2012 be amended to make it a criminal offence for Government to accumulate pending bills by compelling payment for all goods and services that have been properly procured within 30 to 60 days, and holding Government officers liable for delay in payment of pending bills. In addition, the amendment should introduce interest payable on all bills after the lapse of 60 days. If this proposal is implemented alongside measures that National Treasury has put in place, then it will be possible to deter further accumulation of pending bills and enhance survival of the private sector.

The experiences in other jurisdictions show that the survival of the private sector solely depends on efforts that the Government makes to promptly settle the existing pending bills, and the additional measures that it puts in place to deter further accumulation of these bills.

In Italy, for instance, accelerating payments of pending bills to support a liquidity- constrained private sector proved to be effective in enhancing the survival of the private sector. Faced with increase in pending bills, the Italian Government announced in April 2012 a major programme to a tune of EUR 40 billion to clear pending bills arrears within a period of two years. The programme was expanded to about EUR 66 billion, and by October 2014 about 49 per cent of the pending bills had been paid out. Further, the Italian Government recognized that at times pending bills occur due to administrative reasons. As such, the Government introduced mandatory electronic invoicing for central government administration in 2014 with a plan to roll out the same system to local governments in subsequent periods. They also called for all the data on the electronic invoices to be published online to enhance transparency. The measures taken by the Italian government were instrumental in reviving the private sector, which had been adversely affected by pending bills.

Spain, on the other hand, effectively enhanced the survival of the private sector by introducing syndicate government guaranteed loans in 2012 worth EUR 30 billion through which the central government helps regional and local governments to clear pending bills.

Borrowing from the experience of Italy of accelerating payment of pending bills as a way of enhancing the survival of the private sector in the face of pending bills, we are optimistic that the private sector in Kenya will survive. We base our optimism on the renewed impetus by the Government of Kenya for prompt payment of all eligible and pending bills and the collaborative effort by the National treasury which has so far resulted in payment of about 56 per cent of pending bills as at January 2020, and a commitment made for full payment of all other outstanding balance within the 2019/2020 financial year. In addition, the proposal by KEPSA to amend the Public Finance Management Act of 2012 if adopted, will provide a legal framework for deterring further accumulation of pending bills, therefore enhancing the survival of the private sector.

Conclusion

The private sector plays a critical role within the economy in terms of overall contribution to GDP employment creation, and contribution to export earnings. Kenya has a large and diverse private sector that is resilient and well-positioned to drive economic growth. Cognizant of this, the Government works to continually support the survival of the sector by addressing the bottlenecks that may hinder its growth. One such bottleneck has been the existence of pending bills. These bills have not only affected profitability and overall performance of the primary firms trading with the Government, but also other firms through a trickledown effect, hence threatening the overall survival of the private sector.

The issue of enhancing survival of the private sector calls for urgent clearing of all pending bills. But more importantly, it also calls for other complementary policy moves. The efforts that the Government has taken so far to clear pending bills and to deter further accumulation of the same is recommendable. As a result, we have seen payment of about 56 per cent of the existing pending bills and a commitment to clear the outstanding balance within the 2019/2020 financial year. However, more can be done from a policy perspective.  More specifically, the Government should consider shifting its budgeting from the current cash basis to an accrual basis. The benefit of an accrual basis of accounting is that it prioritizes the payment of trade debts and arrears in all budget allocations, and therefore it will reduce pending bills.

Also, given that in some instances pending bills occur as a result of procurement and accounting officers lack of expertise on how to capture pending bills at the beginning of every financial year and make payments from the authorized list of pending bills from subsequent budget allocations, trainings should be conducted for these officers to build their capacity on tracking recording and payment of trade debts as and when they occur to avoid accumulation of pending bills.

[1] World Bank. (2019). Creating Markets in Kenya- Unleashing private sector dynamics to achieve full potential. 2121 Pennsylvania Avenue, N.W.: International Finance Corporation.

[2] Unsettled financial obligations that occur at the end of a financial year as a result of an entity failing to pay invoiced amounts for goods and services properly procured and delivered.

[3] World Bank (2019). Kenya Economic Update, Edition No. 19; April.

[4] Checherita-Westphal, C., Klemn, A. and Viefers, P. (2015), Governments’ Payment Discipline: The Macroeconomic Impact of Public Payment Delays and Arrears.

[5] Kenya Bankers’ Association. (2019) The State of the Kenyan Economy; April.

 

By Sabina Obere and Josphat Kipsaat

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