Who will save borrowers as Uhuru votes with banks on rate cap?

It was Adam Smith, the father of capitalism, who once said: “People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.”

All over the world, and since time, no trade has carried the weight of free market’s infamy of “exploiting” the public as the financial market.

No wonder at least 76 countries around the world, representing more than 80 per cent of the global output and global financial assets, impose some restrictions on lending rates, according to a 2011 World Bank study.

Most of these countries have some law or regulation against usury - the practice of lending money at unreasonably high interest rates. 

In several African economies where markets have failed due to what economists describe as asymmetry of information - where only one party to the transaction has the monopoly of information or anti-competitive behaviour where lenders collude to charge high interests - interest rate controls have been favoured. 

It is perhaps against this backdrop that American economist and Nobel laureate Joseph Stiglitz, a fierce critic of International Monetary Fund’s market fundamentalism - the belief that free-market policies will solve economic and social problems - supported Ethiopia’s refusal to cave into the IMF push to “open” its banking system.

According to Prof Stiglitz, Ethiopia knew that even such bastions of the free market as the United States and Western Europe continued to, ironically, shield their financial markets from external competition.

They also put ceilings on interest rates charged on certain loans well into the 1970s when their markets and the requisite regulatory apparatus were far more developed.

Moreover, Ethiopia had also seen the undesirable results of financial liberalisation next door, in Kenya.

“The move (to liberalise Kenya’s financial market) was followed by very rapid growth of local and indigenous commercial banks. At a time when the banking legislation and bank supervision were inadequate, with predictable results - 14 banking failures in Kenya in 1993 and 1994 alone ...in the end, interest rates increased, not decreased,” said Stiglitz in his book, Globalisation and its Discontents.

After unsuccessfully urging banks to bring down their interest rates, some which went as high as 30 per cent, Kenyan legislators decided to take the short route in 2016.

They came up with a law that put a ceiling on loans given by all commercial banks and microfinance banks at no more than four percentage points above the Central Bank of Kenya’s benchmark rate currently at nine per cent. Maximum interest rates are currently at 13 per cent.  

Before MPs crafted the Bill, former Central Bank of Kenya Governor Njuguna Ndung’u had ceaselessly pleaded with banks to reduce their lending rates.

Current Governor Patrick Njoroge also raised the borrowers’ cry when he took the reins in 2015, but banks turned a deaf ear.

President Uhuru Kenyatta when signing the Bill into law noted that commercial banks had been indifferent to the plight of borrowers, profiting by giving less to the owners of money while charging borrowers more.  

“These frustrations are centred around the cost of credit and the applicable interest rates on their hard-earned deposits. I share these concerns,” said the President.  

However, the country is on the verge of doing away with the interest rate controls as one of the conditions to gaining a new credit facility from the IMF.

This is after Uhuru returned the Finance Bill 2019 to Parliament with a memorandum that calls for the repeal of section 33B of the Banking (Amendment) Act of 2016.

The National Assembly needs to marshal 233 lawmakers to overturn the Head of State’s memorandum.

While refusing to assent to the Bill, the President said the law had failed to live up to its expectation of availing cheap credit to micro, small and medium-sized enterprises (MSMEs), with many borrowers forced to get credit at exorbitant rates from shylocks.

He also cited a Central Bank study that showed rationing out MSMEs from the credit market by commercial banks is estimated to have lowered the country’s economic growth by 0.4 percentage points in 2017 and by a further 0.2 percentage points last year.

This has since been supported by another recent study by IMF that showed that financial repression, including legal restrictions on interest rates, credit allocation and capital movements, poses a significant drag on growth, which could amount to 0.4-0.7 percentage points.

Some members of the National Assembly, the majority of them having loans with various local banks, have vowed to turn out in large numbers to overturn the President’s memorandum.   

Others, such as Budget and Appropriations Committee Chairman Kimani Ichung’wa argues the fate of the rate cap has been sealed.

“It is a fait accompli,” he told this writer on Friday. “When was the last time you saw more than 100 MPs in the National Assembly?” he posed.

Bank shares have rallied after the President’s announcement even as lenders and analysts gleefully welcomed the decision. The banking sector had shares worth Sh2 billion transacted last week, which accounted for 53.31 per cent of the week’s traded value.

Equity Group Holdings was the week’s main feature with 39.4 million shares valued at Sh1.5 billion changing hands at between Sh38 and Sh39.95. KCB Group, on the other hand, moved nine million shares valued at Sh408 million and closed the week at Sh44.10.

But while banks revel in their shares’ rally, borrowers are staring at an uncertain future and will be exposed should the country revert to the old regime.

Unlike in most other countries that have some form of protection against predatory lending, including the so-called pay-day loans, Kenyan borrowers are on their own in the next few weeks when the matter is decided.

Kenya Bankers Association (KBA) had told the Departmental Committee on Finance and National Planning that the industry would be accountable to the public and CBK on the commitments they made before the enactment of the interest capping law.

“They stated that they were committed to maintaining the current performing customers’ loan contracts within the existing contractual framework, and it was only new loan contracts that will be risk-priced (after) the repeal of interest rate capping law,” the committee said of the proposal.

MPs were, however, sceptical that without some law or regulations, if the banks would keep their word.

Except for tentative attempts to increase transparency in the credit market in which KBA unveiled a portal that allows borrowers to compare interest rates charged by different lenders, the market has not changed for the better since 2016.

The Movable Property Security Rights Act (2016), which intends to increase financial access by allowing borrowers to get credit from lenders using such movable assets as crops, livestock, machinery and inventories as collateral, is yet to be effected.

Credit reference bureaus (CRBs) which are supposed to enhance the credibility and reliability of the credit score that guides the pricing of loans have only served the “selfish” interests of banks.

CRBs, critics have argued, have been used to punish bad borrowers while not rewarding the good ones.

In last year’s budget, Treasury submitted to the National Assembly the Financial Markets Conduct Bill, 2018, a lengthy consumer protection law, spelling out harsh punishment for rogue financial service providers.

No financial sector player was to be spared, from the currently unregulated credit-only microfinance institutions to digital credit providers, Saccos and commercial banks.

But the law floundered, with CBK Governor Patrick Njoroge terming it malicious as it stripped the financial regulator of its powers and shifted them to three authorities created by the law - Financial Markets Conduct Authority, Financial Sector Ombudsman and Financial Sector Tribunal.

These bodies would be responsible for policing the length and breadth of the crowded retail financial industry.

The Institute of Certified Public Accountants of Kenya is wary that without such guarantees, “removal of interest rate caps will further subject customers to the high cost of credit and collateral demands that might eventually undermine the intent of the affordability and availability to the small-scale business enterprises.”

 “As Parliament considers the President’s reservations, it would be important for it to ensure that the reasons that led to the capping of interest rates are adequately addressed. Removing the rate ceiling without taking into consideration other measures to develop the credit market and protect consumers would mean that the problems of abuse and over-indebtedness remain,” said ICPAK in a recent paid advertisement.  

ICPAK blamed the Government’s huge budget deficit for crowding out the private sector from the credit market rather than the rate cap.

Recent data has, however, shown that private sector credit has begun to pick up, registering an annual growth of 6.3 per cent.

Vulnerable sectors

Indeed, banks such as Equity had already started shifting their lending preference to the private sector. Barclays Bank Chief Executive Jeremy Awori in an earlier interview said the lender would soon be moving most of its loans to the private sector.   

Uhuru insists that the Government has initiated and implemented programmes and measures aimed at supporting greater access to credit at affordable terms by the vulnerable sectors.

Through such programmes as the women and youth funds as well as assistance from development partners, he noted in the memorandum, this segment of borrowers has been able to get credit at lower rates to start their businesses.

Banks have also been transforming their business models to be more customer-centric, complying with CBK’s Kenya Banking Sector Charter, according to the President.

The charter is anchored on the pillars of customer-centricity, transparency, risk-based pricing and ethics. ICPAK has called for a graduated interest rate cap as a medium-term measure, with banks segregating retail loans into their versions of prime and sub-prime risk exposure.

They can use third-party credit scores of potential borrowers such as CRBs to offer them different rates.  

“Parliament should henceforth put in place mechanism to enhance loans price transparency, consumer literacy, improved consumer protection as well as instituting a system for availing of credit information to the public and potential borrowers,” said ICPAK.