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Interest rate caps have caused more harm to SMEs, economy: CBK study

A study on the impact of interest rate caps on the Kenyan Economy published by the Central Bank reveals that interest caps have instead led to a reduction of the number of loans going to SMEs.

NAIROBI, Kenya, Apr 16 – The capping of bank interest rates has failed to achieve its intended objective of increasing credit access to small and medium enterprises.

A study on the impact of interest rate caps on the Kenyan Economy published by the Central Bank reveals that interest caps have instead led to a reduction of the number of loans going to SMEs.

Reduced lending to the MSMEs contributed to a 1.4 percent decline in the growth of GDP in 2017 and will shave off 0.40 percent of the real GDP in 2018.

CBK says the number of loans have declined significantly since the coming into force of the Banking Amendment Act in September 2016 that set the maximum lending rate at no more than 4 percent above the Central Bank base rate.

To balance the loan book, Banks have increased the value of loans by 36.7 percent mainly by lending to the less risky segments of large established firms, personal loans – which are secured by payslips – and government bonds.

“The rising value of loan size vis-à-vis reduced number of loan accounts reflects lower access to small borrowers and larger loans to more established firms,” states the report by CBK.

The tourism and hospitality sector has been most affected due to the high number of SMEs in the sector.

Bank’s non-interest income has increased from 12.4 percent in September 2016 to 15.2 percent in June 2017 in response to squeezed interest income.

The interest rates, states the report, has also resulted in the decline of profitability of the banking sector.

“The return on equity (ROE) touched the lowest level of 19.8 percent in February 2017 with return on assets (ROA) reaching the lowest level of 2.3 percent in January 2017.”

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And although the sector remains resilient despite the regulatory environment, the report warns that “a decline in earnings over time may pose risks to financial stability through increased balance sheet risks reduced capacity to build capital buffers to absorb shocks.”

The interest rate cap has also tied the hands of CBK to effectively intervene in the decline of credit to the private sector, a major factor in the performance of the economy.

Central Bank Governor Dr. Patrick Njoroge had back in 2016 warned that measures to control the interest rate would result to banks being highly selective on who they lend to due to the inability to price risk.

The IMF and World Bank have on several occasions called for the scrapping of the interest rates citing adverse effects from other countries that have enacted rate caps.

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