Highly contagious pandemics like the coronavirus can easily cause a shutdown of the economy. With households being forced to isolate from others, economic activity slumps.
A country can find itself facing a wave of defaults, with severe disruptions to financial intermediation.
Yet when it comes to policy responses, different fiscal and monetary authorities have come up with different and packages.
This week, President Uhuru Kenyatta unveiled a wide range of fiscal measures including relief on payroll taxes, value-added tax (VAT), corporation taxes, cuts in salaries of the President and his deputy, and of top senior public servants.
We must wait to see how these measures, will impact households and firms during the period of the pandemic. Without a doubt, the tax incentives will go a long way in insulating firms and households from the negative impact of the pandemic.
But in a context where a far greater number of the population is either unemployed, is self-employed or works in the informal sector, stabilisation packages that put too much emphasis on tax incentives may not work too well.
As you look the totality of the tax breaks and incentives announced by President Kenyatta on Wednesday, such as relief for persons earning a gross monthly salary of up to Sh24,000, reduction of the maximum income tax rate from 30 percent to 25 percent, and the reduction of corporation tax from 30 percent to 25 percent, the impression you get is too much focus has been given to the formal sector.
In the developed West, the focus is on replacing incomes of the self-employed and unemployed, ameliorating disruptions to livelihoods and stabilising firms. The elements include ramping up government purchases, income tax cuts, unemployment benefits, unconditional cash transfers and liquidity assistance to firms.
The decision by our government to cut VAT from 16 per cent to 14 percent will ease prices of goods, stimulating consumption, especially of discretionary goods and services.
But how does the cut in the VAT rate help an operator of a barbershop, a Jua Kali mechanic or an owner of the ubiquitous 10 by 10 shops of Nairobi’s central business district who sell goods and services that are not vatable?
We all know that the pandemic is bound to cause a sharp reduction in activity in sectors of the economy that are contact-intensive such as hospitality and leisure, transportation, and travel
How does a reduction of VAT cushion you in circumstances when your biggest problem is a lack of customers? Most of the benefits of the tax measures the government announced on Wednesday will not go Wanjiku.
Instead, the tax cut will be enjoyed by the rich and the formal sector.
If the pandemic intensifies- with the government being forced to impose a lockdown, we will have to go back to re-examine the stimulus package to consider measures to cushion small businesses owned by the self- employed persons.
What small and big businesses need most right now is liquidity to meet fixed costs and to pay for wages and rent during the period of the pandemic. Which brings me to the measures the Central Bank of Kenya announced to address the pandemic.
All over the world, monetary authorities have been quick to respond, with the Federal Reserve and other central banks leading the pack by cutting rates to zero percent.
Indeed, central banks have returned to the tool kit they used during the global financial crisis of 2008. Our central bank has reacted by reducing the signalling rate by one percentage point.
Besides, it reduced the Cash Reserve Ratio to 4.25 percent thereby allowing banks to access additional liquidity of Sh35 billion.
Let’s wait and see how the actions of the monetary authority will impact on the cost of loans.
The truth is that monetary policy does not transmit very well in this country. Contrary to what happens in other countries, our banks do not respond to changes on the Central Bank Rate by immediately repricing their loans.
On the cash ratio, we must watch out lest banks use expanded access to their base rates, by directing the money into T-bills.
My parting shot: the most effective fiscal policy measure remains massive investment in public health measures to suppress and mitigating the virus.
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