Kenya
Investment Climate Assessment
June 2008
World Bank
Regional Program for Enterprise Development (RPED)
Africa Finance and Private Sector (AFTFP)
TABLE OF CONTENTS
Listing of Figures and Tables 4
Acronyms 8
Acknowledgments 24
Overview 25
1 Macro Environment 30
2 Competitiveness of Kenyan Firms 39
2.1 Overview 39
2.2 Sample Composition 40
2.3 Labor Productivity 40
2.4 Unit Labor Costs 42
2.5 Total Factor Productivity 43
2.6 Food Sector 46
2.7 Textiles and Garments 48
3 Business Climate 52
3.1 Introduction 52
3.2 Tax Rates 58
3.3 Corruption 60
3.4 Electricity 68
3.5 Transportation and Customs 71
3.6 Crime 75
3.7 Tax Administration 79
3.8 Business Licensing and Permits 81
4 Access to Finance 87
4.1 Access to Finance from an International Perspective 87
4.2 Effect of Size on Access to Credit. 96
4.3 Characteristics of Loan Products 98
4.4 Loan Applications and Rejections 99
4.5 Conclusion 100
5 Labor Markets and Human Capital 102
5.1 Worker Skills 103
5.2 Labor Regulation 108
5.3 Wages 110
5.3.1 Cross-Country Comparisons 110
5.3.2 Comparisons Across Firms in Kenya 112
5.4 Absenteeism 114
6 Microenterprises in Kenya 117
6.1 Registration Characteristics 117
6.2 Investment Climate for Microenterprises 118
7 Investment, Innovation, and Exports 124
7.1 Introduction 124
7.2 Who Invests, and How Much? Who Innovates? 124
7.3 Who Exports, and How Much? What Are the Main Bottlenecks? 133
7.4 Conclusions 137
8 Recommendations 139
References 151
Technical Appendix 153
Appendix 1: Access to finance 153
Appendix 2: Labor markets and human capital 155
Appendix 3: Enterprise Survey in Kenya: Sample Survey Design 160
Listing of Figures and Tables
FIGURES
Figure 11 Trends in Public and Private GDP Growth/Private Share in Total GDP, 30
Figure 12 Annual GDP Growth, Main Activities, 1996–2006 and 2001–06 31
Figure 13 Contribution to GDP Growth by Institutional Sector and Main Activities, Average 2001–05 32
Figure 14 Herfindahl-Hirschmann Index of Product and Country– 33
Figure 15 Kenya: Export Composition by Destination Regions, Decade Averages 34
Figure 16 Real Lending Rates and Domestic Credit (Private and Rest) 34
Figure 17 Real Gross Fixed Capital Formation, by Type of Assets, 1995–2005 36
Figure 18 Trends in Rate of Change in Private and Public Wage 37
Figure 21 Cross-Country Comparison of Labor Productivity 41
Figure 22 Unit Labor Costs 43
Figure 23 Total Factor Productivity Relative to South Africa 46
Figure 24 Biggest Reported Constraints—Food Sector [[please add callout]] 48
Figure 25 Biggest Constraint: Textile and Garments Firms[[add text callout]] 51
Figure 31 Top-Ranked Constraints by Labor Growth and Labor Productivity 54
Figure 32 Indirect Costs in 2003 and 2007—Kenya Manufacturing Sector 57
Figure 33 Firms Reporting Tax Rate As Major or Very Severe Problem (%) 58
Figure 34 Total Amount of Taxes As Percentage of Profit: International Comparison 59
Figure 35 Breakdown of Taxes: International Comparison 60
Figure 36 Firms Perceiving Corruption As a Severe or Major Constraint: International Comparison (%) 61
Figure 37 Kenya—Evolution of Transparency International Corruption Rating 62
Figure 38 Transparency International Corruption Rating 62
Figure 39 Bribes in Public Procurement (Percent of Contract Value) 63
Figure 310 Bribe Requests from Tax Inspectors—Cross-Country Comparison 64
Figure 311 Percentage of Firms Requesting Licenses from Local and Central Government 65
Figure 312 Bribes, Licenses, and Utilities: Share of Firms Requesting Informal Payments 65
Figure 313 Courts Malfunctioning: Percent of Firms Considering the Court System Efficient 66
Figure 314 Court Procedures and Cost—International Comparison 67
Figure 315: Time and Cost to Close a Business—International Comparison 67
Figure 316 Share of Firms That Experienced Losses from Electrical Outages 68
Figure 317 Sales Lost Due to Power Outages (Percent)—International Comparison 70
Figure 318 Days to Obtain an Electricity Connection—International Comparison 70
Figure 319 Inventory Holdings—International Comparison 71
Figure 320 Inland Transportation Costs ($) 72
Figure 321 Production Lost While in Transit—International Comparison 73
Figure 322 Transportation Losses by Firm Characteristics 73
Figure 324 Customs Costs ($) 74
Figure 325 Percentage of Firms Reporting Crime As a Major or Very Severe Obstacle to Business —International Comparison 75
Figure 326 Crime Costs—International Comparison (Percent of Sales) 76
Figure 327 Cost of Security Services in Percent of Sales—International Comparison 77
Figure 328 Total Costs of Crime—International Comparison (Percent) 77
Figure 329 Impact of Security on Business Decisions (Percent of Firms) 78
Figure 330 Time Spent in Dealing with Tax Officials—International 79
Figure 331 Paying Taxes—Cross-Country Comparisons 80
Figure 332 Percentage of Firms Complaining About Business Licensing and Permits— 81
Figure 333 Duration (in Days), Cost (Percent of Income per Capita) and Number of Procedures Required to Get Business Licenses—International Comparison 82
Figure 334 Manager’s Time Spent Dealing with Regulations 82
Figure 335 Duration (in Days) and Cost (Percent of Gross National Income per Capita) to Start a Business— 83
Figure 336 Average Time to Renew a Business License—Kenya 84
Figure 337 Trade Documents Preparation Costs ($) 84
Figure 338 Usage and Cost of Facilitators When Dealing with Licenses 85
Figure 41: Perceptions About Access to Finance Are More Positive in Namibia Than in Many of the Comparator Countries, Especially Those in Southern African Customs Union 87
Figure 42 Nominal Cost of Borrowing Has Fallen Over the Last Three Years 88
Figure 43 Manufacturing Firms in Kenya Use Trade Credit to Finance a Greater Share of Working Capital Than All Other Comparator Countries 90
Figure 44 Manufacturing Firms in Kenya Are More Dependent on Bank Debt—Relative to Comparators—to Finance New Investment 91
Figure 45 The Median Annual Real Cost of Borrowing in Kenya Is Low and Loan Duration Terms Are Reasonable 93
Figure 46 Collateral Requirements 94
Figure 47 Both Subjective and Objective Indicators Suggest That Access to Credit Is a More Serious Obstacle for Micro- And Small Enterprises Than for Medium-Sized and Large Enterprises 96
Figure 51 Manufacturing Firms Are at the Bottom of the Pack Concerning Perception of Skills in the Labor Force 102
Figure 52 Percent of Firms Providing Training/Percent Workers Trained 105
Figure 53 Manufacturing Firms in Kenya Are in the Middle of the Pack Regarding Labor Regulations 108
Figure 54 Labor Regulation Does Not Appear To Be Particularly Burdensome in Kenya 109
Figure 55 Median Monthly Wages for Production Workers Are Higher in Kenya Than They Are in China and India and the Other East African Economies 110
Figure 56 Median Monthly Wages in the Food and Garments Sectors 111
Figure 57 Unionization Rates in Kenya Are Moderate 113
Figure 58: Absenteeism Is Lower Than in the Rest of East Africa but Higher Than in South Africa 114
Figure 59: The Disease Environment and Changes in Worker Absenteeism[[please add callout]] 115
Figure 61 Business Constraints: Percent Ranking Problem To Be Major or Severe 117
Figure 62 The Shares of Bank Debt and Trade Credit Are Increasing Functions of Firm Size; Use of Internal Resources Is a Declining Function of Firm Size 118
Figure 63 Microenterprise Financial Characteristics 119
Figure 64 Percentage of Income Reported for Tax Purposes: Microenterprises 121
Figure 65 Perceived Reasons for Choosing Informality 121
Figure 66 Median Number of Visits/Required Meetings with Tax Officials per Year 122
Figure 71 Sources of Technological Innovation 125
Figure 72 Investment and Lack of Finance 130
Figure 73 Investment and Macroeconomic Instability 130
TABLES
Table 11 Ratio of Gross Fixed Capital Formation to GDP, 35
Table 12 Gross Capital Formation Real Growth and Structure 36
Table 13 Kenya—Real Average Annual Wage per Employee (KSh of 2000) 37
Table 21 Sample Distribution in Kenya, by Sector and Location 40
Table 22 Productivity Indicators 42
Table 23 Pooled Value-Added Production Functions: ICA Survey 2003 44
Table 24 Total Factor Productivity: Panel Estimation 45
Table 25 Food Sector: Sample Characteristics (%) 47
Table 26 Food Sector: Technology Characteristics 47
Table 27 Food Sector Performance Characteristics: Median Performance Measures 48
Table 28 Textile and Garments Sector: Sample Characteristics (%) 49
Table 29 Textile and Garments Sector: Technology Characteristics 50
Table 210 Textile and Garments: Performance Characteristics 50
Table 31 Firms Reporting Major or Very Severe Business Constraints: 52
Table 32 Ranking and Rating of Business Constraints in Kenya (% of Firms) 53
Table 33 Kenyan Firms in Manufacturing Sector Reporting Major or Very Severe Constraints, 55
Table 34 Firms Reporting Major or Very Severe Constraints: International Comparison 56
Table 35 Indirect Costs: All Formal Sectors, Kenya, 2007 (%) 56
Table 36 Indirect Costs, All Formal Firms: International Comparison (%) 57
Table 37 Frequency and Duration of Power Outages and Power Generator Ownership in Kenya 69
Table 38 Power Outages and Usage of Electrical Generators 69
Table 41 Median Interest Rates and Loan Duration by Firm Size 98
Table 42 Credit Line/Loan Providers 98
Table 43 Loan Characteristics 98
Table 44 Reasons for Loan Rejections 99
Table 45 Reasons for Not Applying for a Loan or Line of Credit 100
Table 51 Percent of Firms Reporting Skills Shortage as a Major or Severe Constraint 104
Table 52 Do Reports of Skill Constraints Vary by Worker Education 105
Table 53 Do Reports of Skill Constraints Vary By Training or Employment Growth? 105
Table 54 Percent of Firms Saying that the Average Worker in the Firm Has 106
Table 55 Firm-Based Training: Prevalence and Percent of Workers Trained 108
Table 56 Median Monthly Wages by Occupation in 2005 U.S. Dollars 113
Table 61 Probit Results: Likelihood of Having Access to Banking Sector 121
Table 71 Summary Statistics: Full Sample and by Sector 125
Table 72 Who Invests? Who Innovates? 127
Table 73 Investment and Innovation Regressions 128
Table 74 Objective Investment Climate Constraints and Investment 132
Table 75 Investment Regressions Based on Pooled 2002 and 2006 Data 133
Table 76 Who Exports? (Manufacturing Only) 134
Table 77 Characteristics of Exporters (Manufacturing Only) 135
Table 78 Modeling the Decision to Export (Manufacturing Only) 136
Table 79 Objective Investment Climate Constraints and Exports 137
Appendix Table 1 Correlates of Access to Finance 154
Appendix Table 2 Training Determinants: Firm Level[[please provide callouts for all tables]] 155
Appendix Table 3 Training Determinants: Individual Level 156
Appendix Table 4 Determinants of Average Wages: Firm Level 157
Appendix Table 5 Determinants of Worker Earnings 158
Appendix Table 6 Population Size by Stratum and Sampling Region 161
Appendix Table 7 Target Sample Size by Stratum and Sampling Region 162
Appendix Table 8 Final Sample Size by Stratum and Sampling Region 162
Appendix Table 9 Effective Sample—Panel by Stratum and Sampling Region 162
Acronyms
AIDS Acquired immune deficiency syndrome
COMESA Common Market for Eastern and Southern Africa
COMTRADE Common Format for Transient Data Exchange
DFID U.K. Department for International Development
EPZ Export processing zone
FSD Financial Sector Deepening
FY Fiscal year
GDP Gross domestic product
GoK Government of Kenya
HCDA Horticultural Corps Development Authority
HIV human immunodeficiency virus
HS Harmonized System
ICA Investment Climate Assessment
IFC International Finance Corporation
ISO International Organization for Standardization
IT Information technology
KIPPRA Kenya Institute for Public Policy Research and Analysis
KPLC Kenya Power and Lighting Co. Ltd.
K Sh Kenya shilling
kWh Kilowatt hour
LCSPS LAC Public Sector Group
LEGJR Legal and Judicial Reform Practice Group
MSME Micro, Small, and Medium Enterprise (program)
NATTET National Association for Technology Transfer and Entrepreneurial Training
PSDS Private Sector Development Strategy
RPED Regional Program for Economic Development
SME Small and medium enterprise
SMLE Small, medium, and large enterprise
SSA Sub-Saharan Africa
TFP total factor productivity
VAT value-added tax
Executive Summary
The central objective of this Investment Climate Assessment (ICA) is to identify the main impediments to productivity growth faced by Kenyan firms. This objective is achieved through the analysis of firm level data directly collected by the World Bank in 2007. This report complements the doing business indicators and provides a solid analytical foundation for private-sector development policy dialogue and design. The last Kenya ICA (2004) indeed served as one of the key analytical tools to inform the Government of Kenya (GoK) of its reform efforts over the past few years. It showed that the business environment in Kenya was characterized by poor infrastructure, complex and bureaucratic administrative and regulatory regimes, poor governance, poor service delivery, insecurity, and unsuitable financial instruments.
This ICA arrives at a critical juncture when the government has committed to improving the investment climate, even further convinced that growth can only be achieved through a prosperous private sector. Based on the view that prosperity requires a thriving industrial sector, private-sector-led growth is central to the government’s Economic Recovery Strategy and its recent “Vision 2030.” In early 2007 the Government of Kenya launched its first-ever Private Sector Development Strategy. This strategy is based on five pillars: improving Kenya’s business environment, accelerating institutional transformation, facilitating growth through greater trade expansion, improving productivity of enterprises, supporting entrepreneurship, and small and medium enterprise (SME)[[as meant?]] development. All of them are linked to the analytical goal of the ICA.
The ICA uses a robust and standardized methodology that has been applied to many countries around the globe. The ICA is based on a representative sample of 657 formal firms and 124 informal establishments. The sample was drawn in four locations (Nairobi, Mombasa, Nakuru, and Kisumu) and covers both manufacturing and services. Weights were used in the analysis of the data to ensure full representativeness of the results. Although the sample is quite large, sample nonresponse could invalidate the results of the analysis—especially for more sensitive questions on corruption, taxes, or sales. In order to reduce such possibilities, strict quality control procedures have been applied during the data collection process. These controls led to an overall response rate above 90 percent. The analysis is based on both perception questions as well as objective indicators. While perception questions are used as starting point of the study, because of their inherent limitations objective questions are used throughout the report to confirm or reject what perception questions appear to indicate. The use of objective questions allows also for more meaningful cross-country comparisons. Consequently, international comparisons are done not only based on perception questions, but most importantly based on objective indicators such as indirect costs, prevalence of generator usage, etc. The use of objective indicators is the preferred approach to identify binding constraints. Finally, data from additional sources (e.g., Doing Business, Connecting People, Transparency International, etc.) are used to validate the conclusions drawn from the surveys results.