Former CBK Governor Eric Kotut has explained how Kenya liberalized its economy in the 1980s.
Speaking in an interview reflecting on his tenure at the Central Bank, Kotut, who served as Kenya’s fourth CBK governor between 1988 and 1993, attributed Kenya’s decision to liberalize its economy to the devastating 1984 drought, which shrank foreign exchange earnings, and to reform conditions imposed by the International Monetary Fund (IMF) and the World Bank.
Kotut, who served as Kenya’s fourth CBK governor between 1988 and 1993, said the country had no choice but to embrace market-oriented reforms after the drought crippled agriculture, then the backbone of the economy, and forced the government to seek financial support from international lenders.
Kotut said the reforms fundamentally changed how Kenya’s economy was managed, reducing the government’s role while opening key sectors to private investment and competition.
“In 1984 we had a very severe drought which caused a lot of damage to our agricultural sector,” Kotut said.
“The economy had relied on agriculture. We had relied on tea and coffee particularly for foreign currency earnings.”
With export earnings declining and the economy under pressure, the government turned to the IMF, the World Bank and other development partners for financial assistance.
Kotut said the support was accompanied by Structural Adjustment Programmes (SAPs), which required Kenya to implement wide-ranging economic reforms.
“The donor community, especially through the World Bank and IMF, was asking developing countries to adopt a structural adjustment programme,” he said.
According to Kotut, the reforms were intended to reduce government involvement in economic activities and create a bigger role for the private sector.
“The idea behind this was that they wanted government to be less involved in the administration of the economy. They wanted the private sector to be the dominant player in the economy, and the government merely to provide infrastructure and other support services.”
“They wanted industries to be made more efficient, and according to them an efficient industry was one that was subjected to external competition.”
Kotut said the government accepted the proposals because external financial support was critical to reviving the economy.
The reforms were formalized through Sessional Paper No. 1 of 1986, which outlined policies and measures aimed at reviving economic growth and guiding Kenya’s development towards the year 2000.
Political Reforms and Donor Pressure
However, Kotut noted that economic reforms coincided with growing calls for political change as civil society groups, religious leaders and opposition figures pushed for the reintroduction of multi-party democracy.
He said donors backed those demands by suspending financial assistance, triggering a severe economic crisis.
“There was a campaign and agitation for multi-party democracy. They succeeded in receiving support from donors. All aid was frozen, and that caused a major, major problem,” he said.
According to Kotut, the aid freeze triggered both a foreign exchange crisis and a budget shortfall because the government had become dependent on donor funding.
“Government was now also relying on donors for budgetary support. Government had no option but to accept.”
Later, Parliament repealed Section 2A of the Constitution, restoring multi-party democracy ahead of the 1992 General Election.
He said the suspension created both a foreign exchange crisis and a budget deficit because Kenya had increasingly relied on donor funding to finance government programmes.
“Government was now also relying on donors for budgetary support. Government had no option but to accept.”
Kotut was referring to the period that culminated in the repeal of Section 2A of the Constitution in 1991, ending Kenya’s one-party system and paving the way for multi-party elections.
How CBK Responded
To cushion the economy from the donor funding freeze, Kotut said the Central Bank introduced several market-based reforms, including foreign currency retention accounts that allowed exporters to keep their foreign exchange earnings in authorized banks.
The bank also introduced foreign exchange bearer certificates, which enabled holders of foreign currency to trade the certificates at market rates.
“The effect of those two initiatives was to create a parallel market for foreign exchange,” Kotut said.
“The effect of it was that it attracted a substantial amount of foreign currency because people could earn a decent amount with their foreign currency. That, in effect, stabilized the financial system despite the freeze of donor funding.”
Following the 1992 General Election, the government accelerated liberalization by abolishing exchange controls, import licensing requirements and other restrictions, further opening the economy to market forces.
More than three decades later, many of the reforms introduced during that period remain in place, shaping Kenya’s trade, investment and financial sectors. Kotut said the changes helped lay the foundation for a more market-driven economy, while acknowledging they were introduced during one of the country’s most challenging economic and political periods.
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