Kenya’s President Uhuru Kenyatta last week signed into law a Bill that will cap the interest rates that banks pay for deposits and charge for loans.
The law is expected to take effect from September 14 after going through legal processes unless the government assigns it a later day for coming into force.
That will see banks restricted to lending at four percentage points above the Central Bank Rate (now at 10.5 per cent), making the effective lending rate 14.5 per cent.
The margins will also be squeezed by the requirement that deposit rates for interest bearing accounts be at least 70 per cent of CBR or 7.35 per cent. That will leave banks with an operating margin of 7.15 per cent compared to 14 per cent which exists now with average lending rate 18 per cent and the deposit rate at four per cent.
Kefa Nyakundi, the chief executive officer of E-nnovative Capital, a company that arranges funding for small and medium enterprises based on their orders from big corporations, spoke to The EastAfrican on the impact of the law on businesses.
As a banker which way do you see bank profitability going now?
Bank profitability particularly for retail lenders, which have been charging interest rates of 24 per cent and above will definitely be jolted in the short run.
By default, banks have to deploy capital as holding it idle has a cost. Therefore, I see the response in the short-term being to address their loan loss provisions. That will see them concentrate their loans to large ‘investment grade’ corporates as well as purchasing government paper.
They will also definitely address the cost side through staff retrenchments/rightsizing, downscaling growth projections and going slow on capex. However, in the long-run, only a significant change in the business models of banks will see them sustain profitability. Banks will re-look at skewing their funding structures.
Where does that leave MFIs and deposit-taking Saccos?
Strictly speaking, this is an amendment to the Banking Act and, until specific amendments are made to the statutes regulating the MFIs and Saccos, they will not be affected by the capping.
Should Kenya banks now look to cross-border markets?
The current situation provides an opportunity for arbitrage which banks will attempt to optimise. However, given the size and strategic significance of Kenya’s economy to the region, this may not be significant.
Is there a good example of where interest rates caps have increased access to affordable credit?
There are effective examples in a variety of European countries of some form of interest rate capping. However, these countries seem to have controls of interest rates, exchange rates, and strict policies on government expenditure.
And a bad one – where they have stymied credit to critical sectors?
The case of Zambia where the ripple effects led to a near-collapse of the kwacha. The president is famously on record declaring a national prayer day for the currency.
How will the interest rate caps affect SMEs?
The issue of financial inclusion for micro, small and medium enterprises (MSMEs) is centred first on access, then on affordability.
The interest rate capping seems to address affordability. However, access will be affected to the extent that banks are required to maintain and sustain a certain ratio of capital as a percentage of risk-weighted assets by the regulator.
Indeed, the Central Bank has issued draft guidance notes on an Internal Capital Adequacy Assessment Process that is meant to help institutions in this regard.
Unfortunately, the risk weighting on the MSME portfolio is higher resulting in a need for banks lending to this sector to hold a significant capital buffer. The jury is still out therefore on access to finance by MSMEs.
How does E-nnovative Capital assist SMEs access credit at affordable terms?
We leverage on technology and achieve this in two ways. Where MSMEs are supplying to large buyers, we do reverse factoring where the buyer issues a promissory note to the supplier. The supplier has the option to sell the note at a discount to a funder who is paid by the buyer on the maturity date of the approved invoice. (Reverse factoring is a commitment to pay a firm’s creditors early in exchange for a discount.)
When MSMEs are buying from a large corporate, we offer receivables finance where the large buyer allows the MSME extended terms and is paid once the goods are sold; avoiding expensive overdrafts. (Receivable financing is use of money owed by customers as collateral.)
The large buyer also has the option of selling the approved invoice to a funder at a discount. In both instances, the buyer and supplier could be in different jurisdictions, hence we facilitate local, regional and international trade.
Source: The EastAfrican