A Case of Public Debt Liquidation Using Inflation in Kenya

Kenya adopted Medium Term Debt Strategies in 2001 to reduce external borrowing, prioritise concessional debt, slow domestic debt accumulation, extend maturities, and set debt ceilings. Despite these efforts, concerns about debt sustainability persist. Inflation has been demonstrated to liquidate debt in advanced economies but remains unexplored in Kenya. This study used 1983-2022 data and time series analysis to assess inflation’s potential to liquidate public debt, distinguishing domestic from external debt. The results indicated that a 2% shock inflation had a minimal impact on domestic debt, reducing the ratio by just 0.024% in ten years. Conversely, external debt to GDP increased by three and a half percent in five years but decreased by 282% in ten years, aligning with global findings that longer-term debt is more responsive to persistent inflation shocks. This study informs fiscal policy on inflation’s role in managing public debt.