Despite the International Monetary Fund’s (IMF) assertion that Kenya’s commercial interest rate cap is inefficient and its insistence that the cap rate is scrapped or modified, Kenya’s parliament, on Thursday voted to retain the cap.
Kenya’s interest rate cap, established in September 2016, a time when the average interest rate stood above 18 percent, had an extra purpose of assisting small traders access capital at affordable rates. While limiting the tendency of some financial service providers to increase their interest yields, the commercial interest rate cap aims to help businesses have access to cheap bank lending. However, this has been far from Kenyans’ reality.
Aly Khan Satchu, a Nairobi-based independent trader and analyst confirmed that “Many thousands of Kenyans have been unable to access bank lending and have turned to more expensive borrowing.” Reason being that banks say they cannot price risk to small and medium enterprises (SMEs) properly while the cap is in place.
Findings by the World Bank show a significant decline in aggregate lending in the Kenyan economy. There was a 3.1 percent aggregate base decline of Ksh167.65 billion ($1.64 billion) compared to the months before. The aggregate base further declined to 2.7 percent decline after the interest rate caps.
Discoveries show that after the caps, commercial banks started issuing loans of shorter maturity, therefore, contributing to the increase in non-performing loans (NPLs) and the failure of the commercial interest rate cap. Non-performing loans witnessed an increase of almost 61% after the caps.
Despite the commercial cap rate not beneficial to its desired target, why does the parliament insist on retaining the bill?
The IMF has demanded the cap be repealed as a condition for Kenya to access its balance of payments support. Even Kenya’s President Uhuru Kenyatta in April recognized the limitation of the law, stating that he hoped that the finance bill will remove the cap hurting the country’s financial sector.
It has been argued that the high prices charged for access to credit are not competitive and higher than the true cost of lending, so maintaining a lower cap on interest rates will provide an excellent environment for lenders to operate.
According to Jared Osoro, Kenya Bankers Association’s (KBA) director for research and policy, following the interest rate cap, the number of loan applications has reduced. This indicates that the loan accounts have reduced, while the ticket sizes have increased, implying that the rate cap works in favour of the wealthy and big business.
World Bank also confirmed saying, “Our analysis finds that all banks, tier 1, tier 2 and tier 3, showed a significant shift in lending towards corporate clients at the expense of lending in other sectors such as SMEs, consumer loans, and new borrowers”.
The small and medium enterprises are those least favoured by the interest rate cap. SMEs make up more than 98 percent of all businesses and provides 30 percent of all new jobs in Kenya. But with the interest rate cap, the percentage of new borrowers receiving credit from banks significantly reduced by over 50 percent.
Those who save are also hurt by the interest rate cap. There has been a shift from interest-bearing accounts to non-interest-bearing accounts because Kenyan banks now prefer to offer interest on longer-term deposits while eliminating interest offerings on current accounts.
Experts have argued that despite the aims and objectives of interest rate caps, they affect the economy by limiting access to finance and reducing price transparency. If rate caps are set too low, financial service providers will find it difficult to recover costs and may witness slow growth, reduce service delivery, become less transparent about the total cost of a loan or be forced to exit the market entirely.