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New Draft Undermining the Role Of Powerful Civil

Servants

Vs

It has been about two weeks since the last article on inflation measurement in Kenya.
Since then I have arrived in the land that inspires the blog and gotten more views on
the matter. The content of the article is clearly vindicated by the general consensus
from Bankers on their unwillingness to reduce their interest rates. It was expected
that with lower inflation figures, there would have been downward pressure on bank
lending rates as their real interest rates fall.

One positive development since has been that the draft constitution was released to
the public on the 17th of November. It has been welcomed with arms wide open and
is seen in most circles as a panacea to the woes that have engulfed our beloved
country. I will vote affirmatively for it when the referendum comes around as the
benefits that it will bring greatly outweigh its shortfalls.

However, after reading through chapter 15 that talks about public finance. Matters
ranging from the office of the Budget Controller and the Central Bank if passed as
they are will pose both a great threat to the fundamental market system that the
country has embraced as well as being a fiscal drain to the budget.
There are some issues that I will raise amongst many others that can be raised. The
first is that Parliament is given a great degree of power when it comes to oversight of
our institutions as well as the appointment of both the Governor of the Central Bank
and the Controller of Budget. It seems a good "democratic" choice to give parliament
most of the powers that Treasury and the Central Bank currently enjoy. The rationale
is that with parliament, most of these decisions pertaining to Monetary Policy,
Budget control and key decisions pertaining to the regulation and oversight of our
financial institutions are better handled by the legislative arm that represent the
opinions of the populace. It has escaped the makers of the draft that the general
populace does not have an informed opinion on a lot of these issues, especially
monetary policy and the regulation and oversight of financial institutions.

In the case of monetary policy which parliament will control through the power they
wield on appointing members of the Central Bank's board of directors, we are very
likely to see very predictable cycles of monetary stimulation. The draft states in
Chapter 15, Article 269, part 3, that the authority of the Central Bank of Kenya vests
in a board, consisting of a chairperson, the Governor, the deputy governor and not
more than four other members who will be appointed by the government and
approved by the National Assembly. Clearly then the members of the board are
responsible to the National Assembly. With this situation in place, parliamentarians
are very clearly going to dictate matters such as the levels of money supply and the
setting of tools such as the repo rate and the bank reserve ratios. Political influence
over these matters is extremely dangerous. The debate over the autonomy of the
Central Bank has been an important one over the years and has even been devoted a
whole chapter in many macroeconomic text books. My opinion on this matter is that
the boards of Central Banks will be judged on their effect on the economy whereas
politicians are looking towards their next election. From an incentives point of view,
then it makes sense to give full discretion and independence to the board of the
Reserve bank as they are more likely to make dispassionate choices regarding the
main mandate of the Reserve bank and that is to control inflation.

The case of legislative incentives clouding law maker’s judgement can be given.
During the sub-prime mortgage boom in the United States of America, a great
number of Americans signed up for sub-prime loans. Sub-prime mortgages are loans
that are given to people who do not deserve them from a financial point of view.
People without employment and with poor credit scores got the mortgages and they
clearly lacked the ability to pay them back. House ownership in the States soared and
everyone was happy. Senators and congressmen were happy to turn a blind eye to the
sub-prime issue because if there voters were happy, the law makers were likely to get
voted in during the next elections. Their incentive system disregarded a key
economic issue that brought down the world’s economy. Afterwards, they are the
ones who tore down Wall Street for their excesses and their insatiable risk appetites.
The point to be taken is that a politician’s incentive mechanism will lead to him or
her to disregard matters of key economic and financial importance that require
unpopular and dispassionate choices because they are incongruent to their political
ambitions.

Peering further on this issue, there will be double pressure to disregard inflation and
make economic growth the key issue for the Central Bank. Nowhere in the draft does
it mandate the Central Bank to actively control inflation. In the current Central Bank
Act, it clearly states that "The principal object of the bank shall be to formulate and
implement monetary policy directed to achieving and maintaining stability in the
general level of prices". In the current draft, the Central Bank is mandated to control
amongst others the value of the currency of the republic, issue notes and coins, act as
a banker and financial adviser of the government and conduct monetary policy aimed
at achieving growth. The focus here then shifts from controlling inflation to
stimulating growth.

The Central Bank as well as the National Assembly will thus have a focus on growth
instead of having a system of balances where the Central Bank focuses on inflation
and the National Assembly focuses on growth. Growth with unbridled inflation is
merely cosmetic as in the long run, real growth will be stagnant. This debate is rife in
South Africa where some sections of the African National Congress (ANC) contend
against the Reserve Banks stance on inflation targeting. The results are clear as
South Africa has managed to steer away from a meltdown of their financial system
and has avoided the disastrous unemployment that their peers in the middle income
countries category have suffered.

One final issue is the congruence of some of the key posts that will be affected by the
Draft Constitution. These posts are the posts of the Controller of Budget, the head of
the Economic and Social Council as well as the governor of the Central Bank. The
latter two already exist. Both the Governor of the Central Bank and the Controller of
Budget will be appointed by the president subject to the approval of the National
Assembly, the former will only have a six year term without renewal whereas the
latter will have a five year term with the option of renewal for only one extra term. In
terms of the Economic and Social Council, the draft hasn't made any clear guides
concerning their tenure, but it has stated that they will follow the same appointment
as the Governor and the COB, the only difference is that they will also have to be
approved by Cabinet. My issue with the above is that these people will have to work
together on many key issues that will require quick decision making in tough times.

They will have to develop a bond and working relationship that will enable this. The
incongruence of their working terms is likely to be a hindrance to their proper
working relationships. An example can be given of Trevor Manuel and Tito Mboweni
in South Africa and Robert Rubin and Allan Greenspan who worked in the U.S.A.
Both teams had discretion and avoided political pressures as well as having similar or
near similar working terms in regards to tenure, the same luxury cannot be afforded
to the likely holders of the aforementioned posts in Kenya.

In the future, we are very likely to see disjointed policy formulation and rigid
decision making if the National Assembly is given so much power. As much as former
post holders misused their posts especially as governors of the Central Bank, it is a
post that will have to be free from political interference. The makers of the draft
should go back to address some of these issues now with consultation from the
banking industry and other experts. Maybe the draft was written at the wrong time.
When the world is suffering from a deep recession and when the country is reeling
from the post-election crisis. We cannot afford to slowly turn socialist in the name of
trying to be fair to everyone. As the saying goes "too many cooks spoil the broth” and
the National Assembly is the perfect example in our analysis.

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