Why the government borrows from you

The Kenyan government spends more than it collects in tax. The gap is the fiscal deficit, and it has to be filled by borrowing. Some of that comes from abroad. A great deal of it comes from inside Kenya — from banks, pension funds, insurers, and increasingly from individuals.

That borrowing is the plumbing underneath an enormous amount of Kenyan financial news, so it is worth understanding properly once.

The instruments

Treasury bills are short-term — 91, 182 and 364 days. They pay no interest as such. You buy them at a discount to face value and get the full face value at maturity. The gap is your return.

Treasury bonds are longer — two years to thirty. They pay a coupon, usually twice a year, and return the principal at maturity.

Both are sold at auction by CBK on the government's behalf, and both can be bought by ordinary people. The entry point has historically been around KSh 50,000 for bills and KSh 50,000 for most bonds, with infrastructure bonds sometimes at KSh 100,000 — check the current prospectus, because these change.

The one thing to understand about bonds

Price and yield move in opposite directions. Always.

Think about why. You hold a bond paying a fixed KSh 1,000 a year. Rates in the market rise, and new bonds now pay KSh 1,200 a year. Nobody wants yours at the price you paid — so its price falls until the fixed KSh 1,000 represents a competitive return on the lower price.

Nothing about your bond changed. The world around it did.

The yield curve

Plot the yield on every government security against how long until it matures. That line is the yield curve, and it is the market telling you what it believes.

Normal (upward sloping). Longer money costs more. Sensible — lending for fifteen years carries more risk than lending for ninety days.

Steep. The market wants a lot more to lend long. Usually that means it expects higher inflation, more borrowing, or both.

Flat or inverted. Short money costs as much as or more than long money. Something is stressed.

For Kenya, the long end of the curve is essentially the market's verdict on fiscal credibility. When the government wants to borrow for ten years and the market demands a much higher yield than it did last year, that is a price being put on doubt.

Crowding out

Here is why this matters to the private sector.

A bank can lend to a business — which takes credit assessment, monitoring, a branch, staff, and carries a real chance of not being repaid. Or it can buy a government security — no credit officer, no branch, no default risk in local currency, and a yield that in Kenya has often been genuinely attractive.

If the government is borrowing heavily at high yields, the second option wins on a risk-adjusted basis without much of an argument. Credit that would have gone to a manufacturer in Athi River goes into a Treasury bond instead.

That is crowding out: government borrowing displacing private borrowing. It is one of the most important structural features of Kenyan finance and it connects directly to how banks make money.

What to actually watch

• Auction results. CBK publishes every one. Was the auction fully subscribed? What yield cleared? An undersubscribed auction is the market declining to lend at that price.
• The domestic/external split in the borrowing plan. Domestic borrowing crowds out local credit; external borrowing adds currency risk. Governments trade one for the other.
• Debt service as a share of revenue. How much of every shilling collected in tax goes straight back out to pay interest. It is the single most honest measure of fiscal room.