Central Bank sets stage for a cheaper interest rate regime

By Stephen Ekwaro

The Central Bank of Kenya on January 14 lowered the Kenya Bankers Reference Rate (KBRR) to 8.54 per cent from 9.13 per cent, sending a strong signal to commercial banks to lower the cost of credit. In lowering the rates, CBK’s Monetary Policy Committee cited an improvement of economic indicators such as inflation, the foreign exchange rate and reduced government borrowing. 

The KBRR framework was introduced in July 2014 to enhance transparency in the pricing of credit, to improve the transmission of monetary policy signals into changes in lending rates by commercial banks. The new rate was effective from January 14 and will be in effect until its next review in July 2015 “if market conditions do not change significantly,” the MPC said in a report signed by CBK Governor Prof Njuguna Ndung’u.

The average lending rate by commercial banks currently stands at 15.94 per cent, having fallen by just one percentage point since last July when it stood at 16.91 per cent. The resetting of the KBRR to reflect lower Treasury bill yields sets the stage for borrowers to benefit from a lower interest rate regime, which, analysts say will accelerate economic growth. 

However, the banking sector regulator left the Central Bank Rate (CBR) at the same level of 8.5 per cent, where it has been since April 2013, which reflects some bit of control on liquidity in the market. The CBR proved ineffective in bringing down interest rates and many hope the KBRR will generate more tangible benefits for borrowers, especially individuals and the private sector.

In cutting KBRR, the MPC noted that overall inflation had steadily declined in November and December last year, and remained within the range of the government medium-term target of 5. “Overall month-on-month inflation declined from 6.09 per cent in November 2014 to 6.02 per cent in December 2014, mainly reflecting significant declines in the prices of fuel and electricity,” said the MPC. 


Confidence in the economy

The shilling’s stability has augured well for the economy despite pressure on most international currencies, reflecting the global strengthening of the US dollar. The shilling was stable against the US dollar and even strengthened against the euro, sterling pound, Japanese yen, as well as the regional currencies. The local currency was buoyed by the resilient foreign exchange inflows through diaspora remittances and increased net purchases of equity by foreign investors at the Nairobi Securities Exchange (NSE), while interventions by the Central Bank of Kenya (CBK) through direct sales of foreign exchange to commercial banks stopped short-term volatility.

“The sustained confidence in the economy reflected in the massive oversubscription of the sovereign bond that was re-opened in December 2014 also supported the Kenya shilling,” said an analyst from a local bank who did not want to be named due to company policy. 

Meanwhile, the government’s domestic borrowing programme for the fiscal year 2014/15 remained consistent with the monetary policy objectives. The issuance of the Sovereign Bond in June 2014 and its subsequent re-opening in December 2014 has dampened pressure on both domestic borrowing and domestic interest rates.

Latest data and stress tests on banks show that the sector remains resilient and, although the ratio of gross non-performing loans to gross loans increased slightly from 5.4 per cent in September 2014 to 5.5 per cent in November, the Committee noted that the banking sector has built significant capital buffers to mitigate the adverse business cycle effects.

New and existing loans amounting to Sh732.2 billion had been converted to the KBRR framework by December 28, 2014 compared to Sh397.24 billion as at October 19. 


Little impact

“Since the rollout of the KBRR framework in July 2014, the average lending rate for the banking sector has been on a downward trend, declining from 16.9 per cent in July 2014 to 15.9 per cent in November, 2014,” the Bank says. “Consequently, the spread between the average commercial banks’ lending rate and the KBRR declined by a percentage point, from 7.8 to 6.8 during the period.”

For many borrowers, the fall may be too small to make an impact as the rates remain among the highest in Africa. Central Bank, though, holds that the full effect of KBRR can be assessed once all loans have been converted into the KBRR framework.

Confidence in the economy, however, remains strong. The MPC Market Perception Survey conducted in December 2014 shows that private sector firms expect inflation and the exchange rate to be stable, and growth to be stronger in 2015. The Survey also showed that the private sector’s optimism for a better business environment in 2015 is high.


Such monetary policy measures, coupled with the lower international oil prices, are expected to stimulate a decline in domestic prices and, and thus lower inflation. But since overall inflation remains in the upper level of the government medium-term target of 5 per cent, retaining the CBR at 8.50 per cent is hoped to facilitate a further decrease in inflation.

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