Post date: Mon, May 11, 2026
Category: Fiscal Policy
By: Faith Nzomo,

Introduction: The Debt Trap

For a long time, Kenya’s fiscal policy was largely a domestic affair. The fiscal discourse was dominated by traditional developmental obligations, with the main focus being driving domestic growth, addressing systemic inequality, and navigating the perennial challenges of poverty, governance, and other hurdles of a developing economy. However, as of 2026, that landscape has shifted. The country’s budget is no longer just a statement of local priorities, it has become a reactive shield against polycrisis. Global shocks have manifested across every tax bracket and expenditure line item, severely constraining the country’s fiscal space. Persistent fiscal deficits have driven the ratio of public debt to GDP to double between 2007 and 2024, exposing an economy with no fiscal buffers. The cost of carrying this huge debt has grown sharply, with interest payments ballooning from 1.8% of GDP in 2007 to 5.7% by 2024 (figure 1). This escalation, fuelled by global vulnerabilities, has created a rigid fiscal architecture in which debt servicing now consumes two thirds of total revenues collected. This not only crowds out domestic development agendas but leaves the economy vulnerable to geopolitical storms originating thousands of miles away, effectively transforming the National Treasury from the sole architect of domestic prosperity into a manager of international risks.

Economic Theory: The Supply Shock Reality

Basic economic theory indicates that supply-side shocks, now a recurring feature of the global economy, drive up production costs which leads to higher consumer prices (in the short run). If the policy maker decides to hold aggregate demand constant, the shocks push up the short-run aggregate supply curve which in turn, shifts the economy from point A to point B as shown in figure 3. This results in stagflation, a challenging environment characterized by rising inflation and declining output. In the long run, however, prices are flexible hence they stabilize, allowing the economy to revert back to its natural level of output at point A.

According to World Bank geopolitical tensions that trigger even a minor 1% reduction in global oil production can lead to a surge in energy costs, driving oil prices up by more than 11%. These price shocks in turn create significant spillover effects across the global commodity landscape. For instance, a 10% increase in oil prices linked to supply shocks would lead to a 7% peak rise in natural gas prices within 11 months and a 5% increase in fertilizer costs approximately a year later. For an agricultural economy like Kenya, these volatilities are directly tethered to food insecurity and market instability.

A Decade of Disruption: 2016–2026

For both the global economy and Kenya, the last ten years have been a sobering demonstration of just how thin the line is between stability and crisis. The tremors began around the time when seismic shifts like Brexit and the 2016 US election introduced a new era of protectionism and policy uncertainty that rattled global markets and signalled a retreat from the predictable globalization of the previous decade.

However, the period since 2019 has been defined by a true polycrisis of interconnected shocks including the global covid-19 pandemic, geopolitical warfare, rampant inflation, and a volatile monetary policy landscape. The disruptions began with the pandemic, which proved to be more devastating than any crisis in the recent past. The pandemic not only strained the healthcare system and caused loss of lives, but it permanently shifted Kenya’s debt-to-GDP trajectory as the government scrambled to fund emergency interventions amidst a collapsing revenue base. Just as the global economy began to breathe, the Russia-Ukraine conflict ignited, this was followed by Middle East tensions and more recently, the US-Israel-Iran conflicts. For Kenya, these wars are the primary drivers behind the rising cost of fuel at the pump and cost of living. They cause supply chain disruptions which forces the government to grapple with the difficult fiscal trade-off of either protecting consumers through subsidies or protecting the country’s tax base. Adding to these crises, central banks in developed economies raised interest rates to combat their own inflation and this led to the depreciation of the Kenya Shilling against other major currencies. This inflated the foreign debt and led to the increase in interest payments without a single new cent being borrowed.

Recent shifts in the global aid landscape and the volatility of international trade policy, specifically tariffs, have intensified the external pressures. Traditional donors are increasingly redirecting funds toward domestic defence and internal priorities, leading to a marked decline in direct development assistance. At the same time, fluctuating tariffs and trade policy shifts are driving up input costs, resulting in resource misallocation and diminished productivity. These factors collectively reduce investment with the full economic impact unfolding as trade relationships gradually reorganize with trade barriers implemented to protect domestic revenue increasingly making the fiscal framework unpredictable.

These struggles mirror a broader continental trend. According to the Economic Development in Africa Report 2024, Africa’s heightened vulnerability is rooted in six distinct categories of systemic shocks namely:

1. Political Instability which is defined by the resurgence of coups d’état and the gradual erosion of democratic institutions, which destabilize long-term policy planning.
2. Economic Pressures which is characterized by unsustainable debt burdens, widening trade imbalances, and rampant inflation that erodes domestic purchasing power.
3. Demographic Shifts mainly driven by rapid population growth and increasing migration pressures that outpace infrastructure development and job creation.
4. Energy Challenges and specifically, the persistent reliance on fossil fuels and lack of renewable energy infrastructure, making economies sensitive to global oil price volatility.
5. Technological Gaps, the digital divide that leaves the region exposed to disruptive innovations and limits the ability to transition to a high-productivity, modern economy.
6. Climate-Related Disasters which are the frequent and severe environmental shocks that threaten an already fragile, agriculture-dependent economic base.

For a small open economy like Kenya’s, these shocks don’t just stall growth, they create a structural dependency on reactive crisis management witnessed recently. The fiscal policy landscape has deteriorated with revenue forecasting becoming a moving target due to these instabilities. Budgets are no longer credible with revisions becoming more rampant and eroding the public trust in the government’s ability to deliver long-term development goals amidst this challenging fiscal environment. This leaves the government with a shrinking discretionary space as non-discretionary bill expands to unsustainable levels, revealing the stark reality of the country’s policymaking cycle characterized by constant fund reallocation just to stay afloat amidst a world in turmoil.

The Breaking Point: IMF and Social Unrest

To offset the resultant narrowed fiscal space characterised by large deficits and high debt obligations, the government turned to the International Monetary Fund (IMF) for a series of multi-year financing arrangements. This lifeline however came with the heavy price of fiscal consolidation in form of stringent conditionalities that demanded aggressive domestic revenue mobilization and the elimination of subsidies. The resulting tax hikes and rising cost of living reached a breaking point as the push for aggressive revenue collection, through the Finance Bill 2024, sparked a wave of Gen Z protests. The demonstrations not only forced the withdrawal of key tax measures but also triggered a period of significant fiscal slippage, as the state struggled to balance the IMF’s austerity demands with an increasingly vocal citizen.

The fiscal strain has been further exacerbated by a shift toward more expensive borrowing sources characterised by poorly structured shorter tenor expensive bilateral and commercial debt. For instance, in 2024, the government issued a new US$ 1.5 billion Eurobond at 10.35%, higher than the coupon rate of the USD 2 billion Eurobond that was maturing in June 2024. This pattern of borrowing at higher costs to retire old debt continued into 2026, with the National Treasury recently raising US$ 2.25 billion through a dual-tranche Eurobond to manage upcoming maturities in 2028 and 2032. In addition, the government has increased reliance on the domestic market, where interest rates have surged, pushing domestic debt past the Ksh 7 trillion mark for the first time by early 2026. This expensive local borrowing not only crowds out the private sector but also increases debt-servicing costs, leaving the country in a precarious equilibrium where interest payments consume a significant part of the national budget.

Conclusion: A New Path Forward

Ending business as usual in fiscal policymaking requires a fundamental shift from reactive crisis management to proactive resilience building. As William McChesney Martin observed, the economy is inherently unstable, subject to frequent shocks. Policy makers are therefore faced by the challenge of stabilization, that is, coping with these fluctuations while formulating appropriate fiscal responses to ensure that they deploy the right policy instrument to respond and prevent recessions. It is important to recognize that fiscal policy does not operate in a vacuum, stabilization is also achievable through monetary policy, where the Central Bank adjusts interest rates and manages liquidity to control inflation and stabilize the currency. For Kenya, a coordinated approach between fiscal and monetary authorities is key to provide a comprehensive defence against global shocks. Therefore, the path forward requires:

1. Aggressive debt reduction and discipline in debt management to ensure debt-to-GDP ratio is lowered toward the 55% sustainable level target. This involves balancing the cost (interest rates) with the risk (repayment timing) by reducing short-term, high-interest commercial loans (like expensive Eurobonds) which are used to pay for long-term projects that do not generate cash for years. This will also require prioritizing long-term, low-interest concessional loans from multilateral institutions which have repayment dates that are spread out to avoid too much debt falling due at the same time.
2. Diversified revenue sources to move away from over-taxing the existing base. The current fiscal framework relies heavily on the formal sector employees and large corporations. To move away from this, the government must expand the tax base horizontally. For instance, instead of raising the rates, the focus must shift to capturing the informal sector and the digital economy by simplifying tax compliance through presumptive taxes (with easy to measure indicators such as the value of a business permit, gross turnover, or even the number of seats in a vehicle).
3. Fiscal policy by itself is a macroeconomic tool for stabilization during shocks. However, for it to effectively work during downturns, governments must ensure adequate fiscal space to respond without compromising the long-term sustainability of public finances. This requires rebuilding fiscal buffers during periods of economic growth by setting aside revenue to be used exclusively during crises, thereby avoiding the need for high-interest emergency borrowing when tragedy strikes. In addition, maintaining healthy reserves is essential to protecting the Kenya Shilling from volatile currency swings, which otherwise inflate the cost of servicing foreign debt.
4. Transparency and enforcement of fiscal rules. Both Parliament and the Office of the Auditor General (OAG) should provide the red flags when the executive deviates from the fiscal rules and ensure full disclosure of all liabilities in the national balance sheet.

Strengthening Kenya’s fiscal framework will position the country’s to better absorb shocks, restore creditor and investor confidence, attract sustainable capital inflows, and finally break free from the cycle of perpetual reallocation, charting a course toward the stable, resilient economy that the citizens deserve.

 

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