Declining Private Sector Credit Growth to Impact Negatively on Kenya’s GDP Growth

The Banking (Amendment) Law (2016) came into effect with the President’s assent on August 24th 2016. The law aims at regulating interest rates applicable to banks’ loans and deposits, which were set at the discretion of the banking players.

According to Section 33B (1) of the law, the maximum lending rate – chargeable for a credit facility – is capped at no more than 4%, the base rate set and published by Central Bank of Kenya.

In January, CBK maintained the base lending rate at 10 per cent in its Monetary Policy Committee (MPC) projecting that inflation would remain within the Government target range in the short term.

According to the Kenya National Bureau of Statistics (KNBS), Kenya consumer prices soared by 0.64 per cent in January compared to December, bringing the month’s rate of increase to 6.99 per cent.

This was attributed to food price increases caused by the ongoing drought.

Analysts have already projected inflation for the month of February to rise to the range of 7.9% – 8.2%, from 7.0% in January 2017 also due to the escalating drought and high fuel prices.

However, since the capping of interest rates.

Private sector credit growth has been on a free-fall for 16 consecutive months, coming in at 4.6% in October 2016 from a high of 21.0% in August 2015.

Private sector credit growth has declined to a decade-low of 4.30% in the course of 2016.

Read:  Increase Govt Expenditure to compensate for reduced Credit Growth – Analysts

It was at 4.6% in October 2016 from a high of 21.0% in August 2015. The decline was due to reforms in the banking sector brought about by the increase in Non-Performing Loans (NPLs), which prompted banks to reassess their risk assessment framework, preferring to lend to the government as it is risk free as opposed to the private sector, which is considered riskier.

“The private sector credit growth falls off the 12%-15% credit expansion band that is required to support economic growth and job creation. This will have an effect of derailing GDP growth viewed from the point that additional loans to the private sector fell to KES 94.6Bn in 2016 from KES 335Bn in 2015. The IMF forecasts that the economy will trim 200bps off its GDP growth in the next two years on account of the private credit meltdown,” states Analysts from Genghis Research.

However, Kiambu Member of parliament Jude Njomo in the Businesss Daily alleges that the current credit squeeze by banks in reaction to the interest rate capping legislation is only temporary.

He alleges that the reforms being undertaken in the banking sector is “a scheme” to prove that the new regulation is not working.

“This is merely a knee-jerk reaction by banks to prove that the law was not going to translate to cheaper loans. They have deliberately stopped lending but it will not be sustainable in the long run because they need to make income and their key business is lending,” said Mr Njomo.

Barclays Bank Kenya CEO Jeremy Awori during the release of the bank’s 2016 financial results, calls for a review on the impact of the law as a whole to the people and the sector.

“We need healthy banks providing credit to grow the economy and not just to corporates but to SMEs to scale, people to achieve their dreams and the impact will be felt in terms of economic growth. Through an honest revisit, we shall gauge is this the right thing for Kenya? What is the impact of the same towards long term sustainable growth of the economy?” he said.

On the other hand, International Monetary Fund (IMF) has warned that if the rates are sustained they could potentially pose a risk to financial stability.

“The macroeconomic outlook is overall positive, including robust growth and reduced external imbalances. However, interest rate controls are likely to reduce access to credit, weighing on growth. They also complicate monetary policy and adversely affect banking sector profitability, especially for small banks,” warns IMF.

Last year September, the CBK Governor also indicated that with the law coming into force it had complicated the conduct of the Monetary Policy Committee (MPC).

“Existing borrowers will benefit, but what happens to the risker borrowers at the margin? They may be cut off from lending. It’s unclear which way this will go. We haven’t done it before,” he told the media.

Bloomberg also reported that of the 11 listed Kenyan banks stocks dropped an average of 14 percent in January, with KCB Group Ltd., Equity Group Holdings Ltd. and HF Group Ltd. leading the decline ‘the worst January in at least five years’.

“The near-term outlook for bank returns is not very positive at all. What’s happening is draconian, but it’s unlikely there will be changes before the August elections, according to Razia Khan, head of Africa macro research at Standard Chartered Plc in London as quoted by Bloomberg.

The Kenya Bankers Association (KBA) chief executive Habil Olaka denies that the credit freeze was deliberate.

“We are in the business of lending so there is no way we can hold credit deliberately. What this law has done is to make it riskier to carry out unsecured lending and that is why you hear people complaining there is difficulty in accessing credit. This has a direct effect to the growth of the economy and even the International Monetary Fund has advised for its repeal.”

Cytonn Investments reiterate that the sector will not be able to pick up if the law is retained. “We do not expect the private sector credit to pick up if the interest rate cap law is retained and a reverse impact will be expected on economic growth for the year, which is projected at 6.1% in 2017 as per the IMF,” says Cytonn in their weekly investor brief.

“The rate cap remains bad for the economy,” the note adds.

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