**The sugar cane growing sector and its vertical relationship with sugar millers is a key driver of Kenyan sugar production that will need attention if the sector is to be become more competitive.** Outgrowers produce 92 percent of cane in Kenya, similarly to South Africa (93 percent), but contrasting with Zambia (40 percent), where cane yields are the highest in the region<sup>27</sup> .  As we will see in the following sections, sugar production follows cane deliveries very closely.  In addition, a number of factories in Kenya have been complaining that they are unable to get sufficient cane to produce at full capacity<sup>28</sup> .  Chisanga et al (2014) argued that the high production price of Kenyan sugar is due to a combination of low capacity utilization (too little cane, or overinvestment in capacity) and inefficient production (poor management, aging machinery).  Mumias capacity utilization in 2012 had reportedly dropped to 55 percent<sup>29</sup> . The fact that sugar cane production has not increased to meet demand by millers suggests that there is some kind of competitive problem in between the sectors (cane production and milling).

**The public discourse surrounding the sugar industry often focuses on the ‘need’ to protect the domestic industry against COMESA, rather than the problem in the domestic value chain**<sup>**30**</sup> **and how these might be addressed.** Tariff and non-tariff barriers to competing imports are no panacea for the domestic challenges in the sugar industry.  On the contrary, it is precisely this protection against competition from more efficient producers that allows the sugar sector in Kenya to remain so unproductive.  A new policy to improve the competitiveness of the sector will require, beyond trade policy reform, a careful look at the production of cane smallholders, with particular focus on the vertical relationship with sugar factories.

**Overall, due to the factors discussed above, Kenyan sugar prices remain very high relative to international prices** .  From 2009 to 2012, Kenyan wholesale prices were on average 149 percent above the international wholesale sugar price<sup>31</sup> .  Compared to international wholesale prices, Kenyan wholesale prices have to account for additional costs incurred by sugar importers, including Value Added Tax (VAT), the Sugar Development Levy (SDL), international shipping, port clearing related charges and inland transport. Taking all of these into account, we could expect the removal of all trade barriers to bring down Kenyan prices by approximately 28 percent (full calculations and explanations are available in the appendix). This is probably a lower bound estimate, since further reductions in import parity would be possible via cutting other costs associated with importing.  Perhaps a more realistic example is what could be achieved by moving to the EAC-CET finished products tariff of 25 percent on sugar, and cutting some of the costs of importing, including the clearing fees.  We estimate that a scenario like this might lead to a decline in sugar prices of 19 percent<sup>32</sup> .

27 Chisanga et al (2014).

> 28 See for example http://www.businessdailyafrica.com/Cane-shortage-exposes-Kenya-to-Comesa-rivals//539552/1667464/-/ybdsy8z/-/index.html

29 Chisanga et al (2014)

> 30 Ibid.

> 31 We use the No.11 Raw Sugar futures contract from the Coffee, Sugar and Cocoa Exchange for the world price for the duration of this paper. For this comparison, we convert into Kenyan shillings at the average mid-market exchange rate for the period.  We use the Kenyan wholesale sugar price as reported by FAS.

> 32 See appendix for full calculations and assumptions.

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