Interest rates: What next

BY ANTONY MUTUNGA

W

hen President Uhuru Kenyatta signed the interest rate cap into law, most financial institutions were enjoying high returns due to the high-interest rates they were charging. However, since the signature, the institutions shifted their focus to lending mostly to large organizations and governments whom they considered less risky. What came next was a decline in access to credit for most small and medium enterprises (SMEs), which make up a majority of the Kenyan economy.

Kenya’s economy has continued to slow down due to a reduction in the growth of the private sector, a rising unemployment rate, and an increase in business closures. With the interest rate cap determined as a part of the problem, the President recently repealed it. Taken as a step to help the private sector grow, many consider it as a solution to the credit crunch. 

According to Moody’s Investors Service Ltd, a credit rating agency, the removal of the capping positions banks in better price risks, thus leading to higher loan growth and increased credit to SMEs that have experienced subdued development and lack of credit. However, despite the support for the repeal, it is also expected to bring back old habits. Financial institutions are back on the driver’s seat to price their loans according to their assessments. Commercial banks once charged interest rates as high as 30% before the rate cap and now they have the opportunity to do the same. 

Interest income from loans is expected to become the top earner for banks once again. According to the Kenya Institute for Public Policy Research and Analysis (KIPPRA), interest income in total operating income declined from 71.2% in December 2016 to 68.5% in December 2017 while non-interest income rose from 28.8% in December 2016 to 31.5% in December 2017. Despite past decisions by commercial banks, the Central Bank of Kenya (CBK) has assured Kenyans that the days of the past will not repeat themselves. 

According to Patrick Njoroge, CBK Governor, banks will not be going back to the same old ways, the wild west kind of banditry. This is despite the CBK not holding the commercial bank interest rates at any other rate such as the Central Bank Rate (CBR). Instead, the CBK expects that banks will follow the recently implemented Banking Sector Charter of 2018. 

The charter is hinged on four pillars; adoption of customer-centric business models by banks, risk-based credit pricing, entrenching an ethical culture in banks and enhanced transparency as well as information disclosure, which are to ensure banks are responsible and disciplined. Since its implementation, several banks have been in support, further ensuring an end to the high rates of the past. 

According to Kenya Bankers Association (KBA) chairman, Joshua Oigara, banks would price loans reasonably. 

“The fear that we will be unreasonable is unwarranted as we have repriced ourselves in the last three years. The pricing by banks is not something you wake up and roll the dice on,” he said.

However, far from increased interest rates, the repeal of rate cap has also affected the interest on savings. With the rate cap in place, depositors were enjoying about 70% of base lending rate or almost 6% on deposits. This has fast changed as savings interests have been on a fall. According to data from the CBK, the average savings interest as of September 2018 stood at 6.3% as compared to September of 2019 where they had fallen to 4.6% as a result of debates of repeal in Parliament. Now the cap has been repealed, the savings interest may fall more despite an increase in bank deposits.

The repeal doesn’t only bring fear of the past; it is also good news for investors in banking institutions. Ever since Parliament focussed on repealing the rate cap, bank shares have been increasing amid an increase in profitability. Now with access to credit expected to soar, banks will be profitable thus increasing their shares in the bourse. 

The interest rate cap had the economy credit stalled, as more and more businesses continued to suffer. Now that the law is scrapped, the Government needs to put in place measures that control the pricing of loans by commercial loans. It is necessary to ensure we do not end up in a similar situation as before.  

Writer is a member of NBM’s inhouse editorial team and lead business researcher

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