Kiambu Town MP Jude Njomo sponsored the Banking Act Amendment Bill. The National Assembly passed the bill and it is now waiting for presidential assent. The Banking Act Amendment Bill seeks to cap interest rates on the loans banks give to Kenyans.If the Banking Act Amendment Bill becomes law, banks cannot exceed four per cent of the Central Bank base lending rate. The lending rate currently stands at 10.5 per cent.
As expected, the Banking Act Amendment Bill has its supporters and opposers alike.Those supporting the Banking Act Amendment Bill say banks have failed to regulate themselves.
We are dealing with a rogue industry that is not ready to listen to anybody (and that is why they must have caps on their rates) ~MP Midiwo
Those opposing the bill say banks should regulate themselves. They say the Banking Act Amendment Bill will reduce the amount of credit available to Kenyans.
The president has 14 days to either assent or decline to assent to the Banking Act Amendment Bill. If he rejects it, he shall return it to parliament with accompanying reasons for the rejection. However, the lawmakers can veto that decision with a two-thirds majority (233 MPs).
Some pros of the Banking Act Amendment Bill 2015
The Institute of Certified Public Accountants of Kenya (ICPAK) says that the financial sector does not satisfy the criteria of a Free Market. It gives the following reasons:
- There is barrier to entry. In case of Kenya; The Central Bank is the regulator and therefore determines entry into the market.
- There is restriction to exit the market. i.e no Financial institution can exit the market until the Central Bank of Kenya is notified until some conditions are met
- There are a few Players on the supply side i.e there are less than Sixty (60) Banks in Kenya today, and thousands of bank consumers.
- The price is determined by the Banks and not by the Demand/Supply mechanism.
The banks behave as Cartels through The Kenya Bank Association. Banking consumers are therefore disadvantaged.
Banks however can be said to be Homogenous. This is because the product they offer are distinguishable. (retail banking period).
ICPAK goes further to say that USA, UK and 27 EU countries developed good business ethics over time. Thus discipline prevails in their banks. The banks tend to set the rates they charge to borrowers very much in line with the base rate set by their regulators. They never go above 2% of the base rate.
ICPAK says from 1906 to 1992, the law capped bank interest rates. Banks made reasonable profits and prospered. But from 1993, they started making abnormal profits.
In economics Abnormal profits is defined as unfair profits derived from privileged position. (ICPAK)
ICPAK talks about the Donde Bill introduced in 2000 by MP Joe Donde. The bill sought to cap the interest rates the banks issued to consumers. The bill received very hostile response from the banks.
Through the powerful Kenya Bankers Association the banks went to Court and managed to stall the process. (ICPAK)
ICPAK ends by saying,
In Kenya it is necessary to cap the Interest rates since the banks cannot self regulate themselves despite the fact that the Monetary Policy Committee is now in place as envisaged in the Donde Bill.
The Consumers Federation of Kenya also supports the Banking Act Amendment Bill. It says the Bill will ensure consumers get value for their money to prevent exploitation by banks.
ICPAK Chair Fernandes Barasa says proponents of interest rates capping cite three main advantages of such initiative:
1. First, interest rates caps can be used to support a specific sector of the economy where a market failure exists or where there is need for more financial resources. Such market failures often result from information asymmetries and the inability of financial institutions to differentiate between risky and safe clients.
2. Second, interest rate caps can be used to protect consumers from exploitation by guaranteeing access to credit at reasonable rates. They also protect the public interest by ensuring a fair and reasonable interest rate on loans.
3. Lastly, it has been argued out that because the prices charged for access to credit can be erratic and anticompetitive and therefore be higher than the true cost of lending, setting a lower cap on interest rates will provide an excellent environment for lenders to operate.
Some cons of the Banking Act Amendment Bill 2015
ICPAK Chair Fernandes Barasa gives the following cons on capping interest rates:
1. First, higher caps make lending to higher risk borrowers profitable by extending credit to some borrowers who were previously denied it.
2. Second, because the riskiness of a loan depends on its size, and not just on the identity of the borrower, higher caps may cause a given borrower to request a larger loan.
3. Third, higher caps may increase the probability that borrowers default on loans, particularly if the caps were preventing borrowers from agreeing to loan terms they could not manage financially.
Central Bank (CBK) Governor Patrick Njoroge urged parliament to give the bank time to compel banks to lower their interest rates rather than introducing caps.
Given time, the market will force banks to re-price their loans or lose their dominance. (Dr. Njoroge).He further says that banks will find other means to beat the caps.
Lenders will still be able to avoid the caps by hiding charges and fees, which will make their pricing even more opaque.
In the end, the consumer will be at risk.It will encourage an informal system where banks will abandon risky loans and loan sharks will emerge and prey on the weakest. (Dr. Njoroge)
Banks could start rationing credit, which will deny the small and medium enterprises crucial funds to spur economic growth. (Dr. Njoroge)
According to Dr. Njoroge, the Banking Act Amendment Bill will have other adverse effects.
Capping interest rates will have a negative effect through the whole economy affecting non-bank sectors.
Mohamed Wehliye, a financial risk expert, says the interest caps will not work. To him, this is how things work in the practical world of finance:
- Cap lending rates at 14.5 pc.
- Wrong message to investors.
- Shilling tanks.
- CBK intervenes.
- Raises CBR.
- Lending rates go back up to where they should be anyway
The invisible hand is stronger
Do you support the president’s decision to sign the bill in to law?