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CBK Warns Against Re-Introduction of Law Capping Bank Interest Rates
CBK Warns Against Re-Introduction of Law Capping Bank Interest Rates
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CBK Warns Against Re-Introduction of Law Capping Bank Interest Rates

Money254 Team
August 18, 2023

The Central Bank of Kenya (CBK) has warned the National Assembly against passing a bill seeking to re-introduce the controversial interest rate cap on bank lending rates. 

Appearing before the National Assembly’s Finance and National Planning Committee, CBK Governor Dr Kamau Thugge spared no effort in dissuading legislators from re-introducing the cap that he said would spell doom for the country’s fragile economy.

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The interest rate cap that was removed in November 2019 by then President Uhuru Kenyatta’s administration following a three-year run from September 2016 was meant to reduce the cost of borrowing, increase the return on savings and expand access to credit. 

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During the interest capping era, commercial banks were restricted to lending at a maximum of only 4% above the Central Bank Rate. At the time of the introduction, the CBR was set at 9.5%, meaning commercial banks and other lenders regulated by the CBK could only give loans at a maximum interest rate of 13.5%. 

SMEs “Crowded Out”

However, as Thugge told Parliament, the cap ended up achieving the complete opposite of what was intended - reduced lending to private sector - with the CBK governor describing the potential effect of the re-introduction as a “disaster” for the economy.

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“I would like to persuade this committee not to bring back the interest rate caps. It has been a disaster. If you bring back that law, it will be a disaster to the economy,” Thugge remarked while responding to Baringo MP Joseph Makila’s revelation that he had drafted a bill to re-introduce the cap. 

He argued that during the interest-rate capping era, the private sector was “crowded out” while indicating that lending to the private sector had improved to double digits by March 2022. 

“Since then [removal of interest cap], credit to the private sector has grown by an average of 5-6% year-on-year,” Thugges said, adding that lending to the private sector now averages 12.2%.

Addressing the preference of banks to lend to the government over a private sector that is perceived to be more risky, the CBK Governor stated that he had engaged the National Treasury with a view of reducing domestic government borrowing to increase credit access to local businesses. 

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However, Ainamoi MP Benjamin Lang’at, who is the deputy chairman of the committee defended the move to reintroduce rate caps stating that they were sabotaged by banks once the heavy borrowing from the domestic market by the government began. 

Makilap, who is yet to table the bill, revealed that it would introduce a restriction on how much the government can borrow locally. 

“If we control interest rates and agree that the government borrows at 2% instead of 16%, we will achieve the goal of lending to the private sector,” said Lang’at. 

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Risk-Based Lending

This comes at a time when commercial banks have been gradually implementing the risk-based lending models that give them the freedom to price loans based on a borrower’s perceived risk profile. 

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The chairman of the Kenya Bankers Association, David Nyamato, defended the risk-based lending model stating that banks were not avoiding lending to the private sector.

“Riskier customers get higher interest on loans than the less risky customers. We lend to the government at commercial rates and this does not mean that we are running from the public in favour of the government.”

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A 2019 International Monetary Fund (IMF) report says the interest-rate capping era was detrimental, especiallyfor MSMEs.

“Specifically, it has led to a collapse of credit to micro, small, and medium enterprises; shrinking of the loan book of the small banks; and reduced financial intermediation,” the report reads in part. 

This, consistent with Thugge’s sentiments back in 2019 when he was the Treasury Principal Secretary in the run-up to the repeal of the interest-capping law.

“We are telling them credit to SMEs is drying up. For them, getting it at a high rate is better than a cheaper rate that they cannot get,” said Thugge, who now heads the country’s apex bank. 

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