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Analysts wary of return to expensive bank loans

By Zachary Ochuodho
Monday, December 16th, 2019
Central Bank of Kenya.
In summary

Loan rates charges have remained an emotive issue, a month after the law capping interest rates was repealed, amid concerns lenders will leverage law of demand and supply.

Already some analysts argue that in the absence of any protective law against abuse by banks, there is a likelihood that the removal of caps has set the stage for the return of expensive loans.

Cytonn Investment analyst Ian Kagiri says besides protective laws, there is need to promote competing alternative funding channels.

“The channels will further increase access to credit for borrowers who are unable to access formal loans from banks, due to the expected increase in banks’ credit books at the detriment of other providers post the rate cap era,” says Kagiri.

Kagiri says whereas the Central Bank of Kenya (CBK) has signed an understanding with commercial banks who have committed to practise responsible and disciplined banking cognisant of customer needs, there are fears some banks may not adhere to such.

Sector charter

The best example was Sidian Bank which increased its interest rate barely 24 hours after the bill was signed into law.

This happened despite them signing the Banking Sector Charter to practise responsible and disciplined banking.

However, Kagiri’s concern appear to be the disquiet of many borrowers. Many analysts contend that interest rates charges are critical to the cost of borrowing and the return on savings—which are an important component to the total return on investments.

Although Kagiri says repealing of the Banking Amendment Act (2016) Section 33B was critical for banks to start lending businesses credit commensurate with their risks, the question that needs to be asked is how they arrive at the figures, for instance, two per cent or 0.5 per cent, which they use to levy as their charges.

“How do they calculate loan charges, that is, insurance, legal fees, stamp duties, valuation fees security third party costs, and registration fees which are levied on consumers as the total cost of credit?” he asks.

However, his concern is not that the interest rates charges should be imposed but rather the rationale behind the percentage basis points attached to them. “How did they arrive at the figures?”

When President Uhuru returned the bill to Parliament, he cited the unintended effects of the law such as the reduction of credit to the private sector, decline in economic growth and slowdown of monetary policy transmission to inflation and growth.

Political factors

But the Institute of Certified Public Accountants of Kenya (ICPAK) disagrees with this line of argument that the interest rate cap had unintended effects to the economy.

Icpak chief executive Edwin Makori says whilst the interest cap had its fair share of problems, the truth is other macroeconomic, social and political factors contributed significantly to the problem.

“There was a shortfall in revenue collection against increasing public expenditure needs partly due to high spending on infrastructural projects which necessitated borrowing from both the external and domestic markets as a way of bridging the financing deficit,” says Makori.

He says the riskiness of a loan depends on its size and not just on the identity of the borrower and advised banks to segregate retail loans into their own versions of prime and subprime risk exposure, using third-party credit scores of potential borrowers to offer them different rates.

Hezbourne Ong’elle argues that banks need to reduce the rates to spur economic growth thereby creating jobs for the many unemployed youths. 

Studies indicate that many firms die before they celebrate their second birthday mainly due to the high cost of credit.

Soon after Kibaki came to power in 2003, banks, which used to charge hefty interest rates, reduced the charges considerably because he barred the government from borrowing in the domestic market – a move which economists attributed to strict observance of fiscal policies.

Interestingly, the rates, which fell to a “single digit” during Kibaki regime shot-up  immediately Jubilee Party came to power in 2013.

The rise in rate charges was attributable to the high borrowing in the domestic markets thereby crowding out the private sector.

The International Monetary Fund (IMF) had also identified the repeal of the commercial lending cap as a condition for Kenya to be granted an extension of its standby credit facility.

As we cross over to a new year, it will be interesting to follow how the new regime pans out, given the government’s appetite for cash.

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