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Govt urged to lower interest on bonds

NAIROBI, Kenya, Apr 20 – The government has been challenged to lower the interest rate on its bonds and Treasury bills, in order to reduce the spread between lending and deposit interest rates.

Interest spread, which is the difference between the yield on loan advances and the interest paid on deposits in Kenya, is at 11 percent which is very high compared to the international standards of between five and six percent.

Accounting and Consulting firm RSM Ashvir Chairman Azim Virjee explained that part of the reason that the spreads are very high is because the government is still paying very attractive interest rates on risk-free bonds.

“The solution is for the government to reduce the risk-rate interest because if they do so, and with so much liquidity, the lending will then automatically go down. For banks, the overall cost of doing business will also decrease significantly especially when they are expanding their operations,” he argued.

The government has on average been paying between nine and 12 percent on its paper which makes them attractive to investors such as banks which prefer to invest in liquid assets rather than give loans which are riskier.

“Today, banks are giving almost no interest on current accounts; maybe two percent on savings accounts and three to four percent on fixed accounts but they are charging 10 percent plus (as lending rates) and this is not good for the economy,” he said.

This trend, Mr Virjee forecasted, is unlikely to continue for long and thus the need for the government through the Central Bank of Kenya (CBK) to take a long term intervention measure.

“There has to be a strategy in place by the CBK to try and achieve the international benchmark of the spread between the deposit rate and lending rate to be in the range of five to six percent,” he added.

Although this rate has come down from the 12 percent average rate that was maintained by banks in 2002, eleven percent is considered prohibitive to businesses as it also discourages savings.

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Efforts by the Central Bank in the past to have commercial banks slash the rate have been met with reluctance despite the fact that there had been a significant reduction of risks to their business.

This, for example, can be seen in the continued reduction of the industry’s Non Performing Loans (NPLs), which currently stands at 6.3 percent from the 27.4 percent registered in 2002. Also, the inflationary pressures are much lower than they were nine years ago.

On their part, banks have cited structural rigidities in credit supply as one of the reasons that the spread has continued to be high.

However, the firm’s Managing Director Ashif Kassam rejected this argument saying all fundamentals in the sector such as NPLs and credit risks are very low and thus do not warrant the high spread.

“The overall credit risk has come down and secondly there is enough liquidity,” Mr Kassam said but observed that banks were responding to the issue albeit slowly.

The two officials spoke when the company released the findings of a survey of the banking sector in 2010 which showed a solid performance by the industry despite the global financial crisis.

Their profitability for instance rose from Sh48billion in 2009 to Sh77billion in 2010, representing a 60.4 percent increase while return on capital was 32 percent compared to 27 percent in the previous year.

The country’s seven biggest banks continued to dominate the various key parameters such as profitability, total assets and customer deposits.

However, the study showed that small and medium banks are increasingly investing significantly in branch expansion for instance, making their presence in the industry felt.

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And while indicating that the industry would be able to maintain the growth momentum in 2011, Mr Kassam acknowledged that the high energy and food costs as well as high inflation environment do pose a threat to the banks’ profitability in the year.

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