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Kenya is gaining a reputation as a tech and innovation hub, and as a destination for investment. 1/ 
Yet investment and export growth have faltered: Kenya trails peers in the region. 2/
Why might this be? Let’s explore one of Kenya’s signature industrial policy initiatives, economic zones. 3/
Kenya created export processing zones in 1990 to spur investment, increase exports, and cut a path to rapid industrialization. 4/
The number of jobs generated by EPZs increased slowly before jumping with AGOA; exports have risen steadily, albeit slowly. 5/
Yet growth in textiles, both the focus of AGOA and EPZs’ greatest growth sector, has been smaller than hoped. 6/
And EPZs’ contribution to exports stagnated at <10%. 7/
Meanwhile, Kenya has climbed the Doing Business rankings -- yet as above, it trails peer countries in investment. 8/
Enter the Special Economic Zones program, passed in 2015. It’s a chance for a do-over. But what should Kenya do differently? Let’s start by investigating why the EPZ program failed. 9/
In Kenya, government & market failures constrain investment. 10/
Unpacking this, starting with market failures: Kenya suffers from both information externalities and coordination externalities. 11/
Info externalities: Before an industry exists in Kenya, firms don’t know how much it costs to produce. Once one or a few firms experiment and figure out the cost structure, other firms can benefit from the experimentation without incurring the investment cost themselves. 12/
This reduces the incentive for experimentation, since the experimenters can only reap a fraction of the gains, creating space for government to subsidize experimentation in promising sectors to correct for the externalities. 13/
In Kenya, the EPZ program failed to encourage diversification beyond simple cut-and-sew textiles…and despite a broader set of sectors in the SEZ program, there’s little evidence things will go any better. 14/
Coord. externalities: Most Kenyan manufacturers aren’t very productive. Why? A lack of non-tradable inputs, leading to under-provision of potentially profitable economic activity. Absent demand for inputs, there’s little incentive for them to be produced (“chicken-and-egg”). 15/
Also, most EPZs are small (1 firm), reducing spillovers and agglomeration effects. Subscale zones prevent effective service provision (utilities, centralized services). 16/
Now, government failures: First, tax incentives to firms in economic zones are large (>$1B/year) yet they don’t affect investor decisions. They’re also complex and difficult to implement. 17/
Second, corruption in Kenya is endemic (ranking near the bottom, 143/180 countries, in perceptions of corruption). It’s tough to say whether EPZs were assigned to sites for political reasons, but it’s clear politicians used SEZs as a tool in the run-up to the 2017 elections. 18/
What should Kenya do? Its “big-man” politics and the backing of President Kenyatta mean SEZs aren’t going anywhere. So, Kenya should make a virtue of necessity. 19/
Simplify tax incentives, focus on a targeted list of sectors, and learn from EPZ experience to create more concentrated sites with strong administration. SEZs can set Kenya on a path toward structural transformation and growth -- and give Kenyatta a legacy to be proud of. 20/20
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In Kenya, government & market failures constrain investment. 10/
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