Interest rate cap on loans unlikely to be scrapped anytime soon

Post Bank headquarters banking hall on 16th September 2016. PHOTO: Wilberforce Okwiri

The interest rate cap on loans is unlikely to be scrapped anytime soon despite the Central Bank's latest hint that the law could be repealed.

According to international rating agency Fitch Ratings, the regulation capping interest rates at four per cent above the Central Bank Rate (CBR) - currently at 10 per cent - is likely to undergo a revision and not total scrapping.

The amendment to the Banking Act passed by Parliament last year also requires banks to pay interest on deposits at a rate of at least 70 per cent of the CBR.

“We expect the lending cap and the deposit floor to be revised (but not rescinded),” said Fitch Ratings in a statement at the weekend.

“Rate caps are not uncommon in emerging markets. The Kenyan rate cap is unusual, however, in that it is a blanket rate cap on all loans; in other markets, rate caps typically apply only to specific segments such as retail lending, generally for the purpose of consumer protection.”

Low returns

The view by Fitch Ratings that the regulating interest rates on loans is here to stay and only needs slight adjustments is contrary to the position held by banks, which want the law done away with altogether.

Though popular among Kenyans, lenders have since the regulations came into force slowed down on lending, arguing that the risk of advancing credit to Kenyans is higher and should have commensurate returns.

Instead, banks have opted to lend to the Government through Treasury bonds and bills, which are deemed secure, albeit giving low returns. Banks have also blamed decline in profits on the interest rate caps.

The position by commercial banks is also supported by CBK. In September, the regulator said the law would soon be reversed to allow the market to determine the pricing of credit.

Dr Patrick Njoroge, the CBK governor, after a meeting with investors last month said banks would be handed back a free hand in pricing the cost of loans since the impact has been ‘problematic’.

“It is in our interest as a country and CBK to work to reverse these measures and go back to a regime with freely determined interest rates but in a disciplined environment. It is clear to us that this has been problematic in many ways. I can tell you the direction but I cannot tell you when,” said Njoroge.

The Consumers Federation of Kenya has, however, vowed to oppose any attempts to repeal the law, saying the regulator had not demonstrated that banks would not go back to imposing exploitative charges on loans.

Fitch Ratings also noted that the requirement that banks pay interest rate on deposits that was at least 70 per cent of CBR - which would translate to seven per cent - had been a boon for depositors who were previously paid at a rate of two per cent.

Banks have, however, been crafty and converted savings accounts into transactional accounts that do not qualify to get the minimum interest rates under the regulations.

“Kenya’s cap on loan rates and its floor on deposit rates have had a dramatic impact on the spread between banks’ lending and deposit rates, which have halved on average since implementation just over a year ago,” said Fitch.