Fitch Ratings Says Kenya’s Law to Limit Bank Interest Rates Will Need to Be Revised

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A law limiting the interest that Kenyan banks can charge their customers will likely be revised, a new report by research group, Fitch Ratings has revealed.

The law, which was introduced about a year ago, was supposed to make it easier for borrowers to secure credit but instead put pressure on banks, forcing them to limit their lending.

All of the country’s banks saw a sharp reduction in loan spreads after the government capped rates at 4 percentage points above the Central Bank of Kenya’s Benchmark Rate or Central Bank Rate (CBR), which is currently at 10%, for all loans. The State also placed a floor of 70% of the CBR on deposit rates, leading to falling interest income from loans and rising funding costs.

“The loan cap is also causing banks to reduce their lending to the private sector as they can no longer price fully for higher risks,” Fitch Ratings said in a report released this month.

The latest data from the Central Bank of Kenya shows a sustained impact since the cap and floor were implemented in September 2016.

A similar report from financial services group, Cytonn Investments, indicates that for the past 20 years, Kenyan banks have been enjoying interest rate spreads of about 11.4% on average, way above the world average of 6.6%.  The country’s Central Bank Governor, Dr. Patrick Njoroge had earlier agreed that this was too high but has been against the interest rate peg, arguing that it would bring about rigidity in the financial system.

Placing caps can and have been used by other economies but not for the control of spreads but rather to control extreme lending and borrowing behaviour. In such economies, the cap is usually way higher than the prevailing lending rates.

Experts say that Kenya’s move to cap lending rates appears to have backfired since banks are currently avoiding high risk borrowers, especially individuals and small and medium-sized enterprises (SMEs)

“We expect the lending cap and the deposit floor to be revised but not rescinded, although a decision is unlikely before the re-run of the country’s election later this month,” said Fitch Ratings’ Director, Financial Institutions, Mahin Dissanayake.

Fitch Ratings is one of the world’s “Big Three credit rating agencies”, the other two being Moody’s and Standard & Poor’s. It is one of the three nationally recognized statistical rating organizations (NRSRO) designated by the United States Securities and Exchange Commission in 1975.

 

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