interest rate cap
This article first appeared in my weekly column with the Business Daily on May 14, 2017
Over the past few weeks there has been deep concern voiced by Kenyans with regards to the rising cost of living in the country. Kenyans want to know why their money doesn’t go as far as it used to in the past.
There are several variables at play here the first of which is a no-brainer: the drought. The drought has had the effect of destroying food crops and livestock leading to cuts in the supply of food products. Yet the demand for food expands each year as new Kenyans are born. The drought has created a situation where food demand far outstrips supply leading to an increase in food prices and food price inflation.
The second factor at work is the fact that Kenya is an import economy of which food products are a key import. With the strengthening of the dollar as the US economy recovers, the relative depreciation of the shilling (albeit marginal), is making imported goods more expensive and slowly exerting inflationary pressure on food prices.
Thirdly, the interest rate cap has led to a noticeable decline in lending. And although the cap counters inflationary pressure through a contraction in liquidity, the cap means the small loans Kenyans used to qualify for to meet urgent expenses are no longer coming in. As a result, the reduced cash flow for the average Kenyan means that they have to make the little they earn stretch even further as they do not have the cushion of short term loans on which to rely. The effect is that Kenyans feel more broke now than they did last year.
Finally, it would not be a stretch to surmise that there are more Kenyan Shillings moving around in the economy due to the election. Money is being spent on election related expenses that are not present during a non-election year. To be clear, there is no hard data on this which is a shame; there should be a study to assess the extent to which election spending pushes up inflation. I raised this concern with an expert a few years ago; I asked him how the government will manage the likely inflation linked to ‘artificial’ election-related spending. He told me that it would correct itself in the medium to long term as that extra liquidity leaves the economy post- election.
The factors detailed above inform why there seems to a money crunch for many Kenyans. And sadly, the interest cap has shut off the tap of liquidity on which Kenyans use to rely in times like this.
The truth of the matter is that there are no quick and ready solutions to this issue and short term remedial action will not address the structural problems of Kenya being an import economy and the ravaging effects of the drought where millions, if not billions, of shillings in agricultural assets have been lost. And since it is an election year, the related spending will continue and there will likely not be the will to reverse the interest rate cap–not until elections are over.
Government and non-government actors should take this time to assess the various issues elucidated above and develop strategies to buffer Kenyans from the confluence of factors currently making life difficult for so many Kenyans.
Anzetse Were is a development economist; email@example.com
This article first appeared in my weekly column with the Business Daily on April 30, 2017
Kenya registered relatively healthy GDP growth in 2016 at 5.8 percent. This is an important figure as the average rate of growth for Africa in 2016 was 1.3 percent. It has been noted that in Africa’s current multispeed growth phase, East Africa will be important in pulling up the economic growth of the continent due to limited exposure to the commodities and fairly diversified economies. In this context, Kenya is important for the continent’s growth as East Africa’s largest economy.
That said, it should be noted that there are clear threats to robust economic growth this year. While there are external factors that may mute growth such as Brexit and new policies by the Trump administration, the focus of the analysis in this article will be on domestic threats to growth in 2017.
The first threat is the drought; the Central Bank of Kenya (CBK) has already warned that the economic growth will be negatively affected in 2017 due to the drought. The production of Kenya’s key export, tea has been ravaged; production is expected to drop by 12 to 30 percent. And it cannot be guaranteed that any loss in forex due to lower volumes will be mitigated by higher tea prices. Livestock production has also been devastated. It is estimated that the drought has led to losses of 40 to 60 percent, particularly in the North East and Coast. Secondly, the drought has pushed up inflation which stood at 10.28 percent in March, far above the government ceiling of 7.5 percent. The cost of food has been particularly affected, forcing low income families to put more money aside for basic food needs. Finally, the drought has led to higher electricity prices due to Kenya’s reliance on hydropower; about 39 percent of installed capacity is hydro. Increases in the cost of electricity inflates the price of manufactured goods for the end consumer.
The second threat to Kenya’s economy is the interest rate cap which is linked to a contraction in lending. As this paper reported, Treasury stated that lending to businesses and homes grew just 4.3 percent in the year to December, down from 20.6 percent in a similar period in 2015. The 4.3 percent credit increase is well below what the CBK says is ideal loan growth of 12 to 15 percent which is required to support economic growth and job creation. Muted lending, particularly to SMEs due to the interest rate cap, will put a damper on the country’s growth engine.
The final threat to Kenya’s economy this year is the general election. Business mogul Aliko Dangote made the point that in Africa many investors often choose to wait for an election outcome before making further investments. Wary local and foreign investors pull back investment in a country and adopt a ‘wait and see’ attitude until elections are finished and the stability of the incoming administration has been established. The IMF echoes this concern stating that the elections in Kenya this year may contain growth momentum.
The reality is that economic growth ought not be affected by any of the factors above; they could be avoided or better managed. And while the economy is resilient and will continue to grow, the economic impact of the factors detailed above is already being felt by millions of Kenyans.
Anzetse Were is a development economist; firstname.lastname@example.org
This article first appeared in my weekly column with the Business Daily on March 12, 2017
Last year I opposed the interest rate cap before it was approved and came into effect. I opposed it because I knew it would lead to a contraction of liquidity, particularly for SMEs who are often viewed as high risk by mainstream banks. A few months later, the fears I had have become a reality. Last week this paper reported that Kenya’s private sector growth moved towards stagnation in February partly due to a decline in private sector credit. Treasury reports indicate that credit growth slowed down to the lowest level in a decade, partly due to banks becoming reluctant to lend under the rate cap regime.
As this paper reported, Treasury data indicates that lending to businesses and homes grew just 4.3 percent in the year to December, down from 20.6 percent in a similar period in 2015. The 4.3 percent credit increase is well below what the Central Bank of Kenya (CBK) says is ideal loan growth of 12 to 15 percent which is required to support economic growth and job creation
The irony of this situation is two-fold. Firstly, the interest cap did not expand lending, it contracted it, particularly for SMEs. Strathmore Business School indicates that most SMEs in Kenya struggle to raise capital from banks. With rate caps, refinancing of credit from financial institutions has become even more of a challenge. Secondly, even with the interest rate cap, most SMEs find current interest rates unaffordable. Credit is still too expensive. So what did the interest cap achieve? Firstly, it has made it even more difficult for SMEs to get access to credit and secondly, it is an effort in futility as credit is still too expensive for most, even with the cap.
This is when monetary policy would usually come in to try and address the situation. In a normal scenario with no cap, a contraction in liquidity would usually lead to a drop in interest rates to encourage banks to lend. However, the CBK would not do this due to two reasons. Firstly, the ongoing drought is already placing upward pressure on inflation; the overall inflation rate for February this year was 9.04 percent, well above the ceiling of 7.5 percent. Thus even in a normal situation, the CBK would likely not drop rates as this would place further upward pressure on inflation. Secondly, this is an election year where billions enter the economy in an almost artificial manner, putting further upward pressure on inflation.
However it is not business as usual, there is an interest rate cap to contend with. The interest cap has thrown monetary policy into chaos. In the current situation, the CBK cannot drop interest rates to encourage lending as this would engender further contraction in liquidity, shutting even more people and businesses out from access to credit. Lowering interest rates would make banks even more reluctant to lend. So the irony of the situation is that it appears that an increase in interest rates may encourage more lending from banks as it would raise the risk ceiling of those to whom banks are comfortable lending. Kenya is in an interesting position where increasing interest rates may actually expand lending; monetary policy has to work upside down. However, if the increase in interest rates were effected to try and address the contraction in liquidity and worked, it may then exacerbate the inflation being caused by the drought. Even in this upside down world there are reasons against raising interest rates as well as dropping them. Raising interest rates would likely expand liquidity and exacerbate inflation and dropping rates would likely engender a further contraction in liquidity.
The world is watching this experiment with interest rate capping going on in Kenya, and thus far it is making the case against interest rate caps even stronger.
Anzetse Were is a development economist; email@example.com
On Monday February 27, 2017 I was interviewed by Citizen TV on the State of Kenya’s Economy.
This article first appeared in the Business Daily on February 12, 2017
The election year in Kenya is contextualised in two conflicting realities: on one hand the country is among those growing the fastest in Africa and the world and is successfully attracting mega investment. On the other hand, companies have shut down or left the country, poverty and unemployment levels remain high and cost of living continues to rise. How do we reconcile these two conflicting realities?
The first is to acknowledge that the economy is growing; by 6.2 percent in Q2 and 5.7 percent in Q3 of last year. Juxtapose this with an African GDP growth rate of about 1.4 percent and a global growth rate of about 3.4 percent in 2016. Analysts point to several sources for this growth; agriculture, forestry and fishing; transportation and storage; real estate; wholesale and retail trade as well as mining and quarrying. Kenya was not only buffered from the decline of commodities, Kenya saved nearly KES 50 billion in the first half of 2016 alone due to low global petroleum prices. Further, the Kenya Shilling remained steady with regards to major currencies, standing at around KES 100 to the US Dollar. This is important for Kenya which is an import economy; currency depreciation places upward pressure on inflation. With regards to inflation, the country remained within the Central Bank of Kenya’s (CBK) inflation target range of 5 plus or minus 2.5 percentage points; annual average inflation dropped from 6.5 percent in November to 6.3 percent in December, the lowest reading since November 2015. In addition, the country made progress on the Ease of Doing Business Index. Kenya ranked 92nd up from 113 in 2015; this is the first time in seven years Kenya has ranked among the top 100.
Further, Kenya’s profile as an attractive investment destination grew in 2016. FDI Markets ranked Nairobi as Africa’s top foreign direct investment destination with inflows surging by 37 percent in 2015. Indeed, reports indicate that Kenya recorded the fastest rise in FDI in Africa and the Middle East. The FDI intelligence website indicates that a total of 84 separate projects came into Kenya in real estate, renewable and geothermal energy as well as roads and railways worth KES 102 billion, all of which provided new jobs for thousands of Kenyans. Additionally Peugot announced a contract to assemble vehicles in the country joining Volkswagen which opened a plant last year, Wrigley invested KES 5.8 billion in a plant in Thika and a contract worth KES 18.74 billion was signed with the French government to build a dam.
However, the reality elucidated above seems theoretical in the minds of millions of Kenyans, most of whom are not feeling the positive impact of all these rosy statistics. Media reports indicate that that thousands jobs were lost last year due to company restructuring or company shut down altogether. 600 jobs were lost when Sameer Africa announced that it would shut down its factory. Flourspar Mining Company also shut down, leading to a loss of between 700-2000 direct and indirect jobs. Oil and gas logistics firm Atlas Development also wound up operations and the Nation Media group shut down three of its radio stations and one television channel. But perhaps it is in the banking sector where job losses were most pronounced. This paper reported that more than six banks announced retrenchment plans in 2016: Equity Bank released 400 employees; Ecobank announced it would release an undisclosed number of employees following a decision to close 9 out of its 29 outlets in Kenya; Sidian Bank, formerly known as K-Rep, made plans to release 108 employees, and the local unit of Standard Chartered announced plans to lay off about 600 workers and move operations to India.
Why is this happening? How can economic growth be juxtaposed with massive lay-offs and economic hardship? There are several factors at play here. With regards to the employment cuts in the banking sector, these are linked to two factors, the adoption of technology and the interest rate cap. Technology adoption has translated to the reality that millions of Kenyans no longer have to visit banks to access financial services as they can make financial transactions digitally, transactions that range from money withdrawals and transfers, to loan applications and disbursement, and the payment of bills. This automation has led to the attrition of jobs.
Secondly, the interest rate cap has placed pressure on the profit margins of banks leading to job forfeiture. The interest rate cap effected by the government stipulates that banks cannot charge interest rates above four percentage points of the Central Bank Rate (CBR). Interest rate spreads have several functions for banks, of which perhaps the most important is insulating banks from bad borrowers. There is an asymmetry of credit information in Kenya due to the fact that the creditworthiness of most Kenyans cannot be established. As a result, when banks make loans to Kenyans, they often do not know if the borrower will be a good or bad one. Thus to insulate themselves from the risk of lending to bad borrowers, interest rates are raised in order to ensure that the bank recovers as much money from the borrower in as short a time as possible. In removing this provision, the interest rate cap is essentially forcing banks to lend money to both good and bad borrowers at the same rate. This in turn threatens profit margins as there is a real risk that the bank now has no buffer against bad borrowers. As a result, some banks have responded to the interest rate cap by shedding jobs to cut down operating costs and safeguard profits.
However, the interest rate cap is having a more insidious effect on the economy. A report by the IMF released last month states that the interest rate controls introduced in Kenya could reduce growth by around 2 percentage points each year in 2017 and 2018. The IMF also expects a slowdown in the growth of private sector credit linked to the cap. Additionally, the growth of the economy has been revised downwards due to the cap. What does this mean for the average Kenyan? The interest rate cap means that SMEs and individuals who used to get loans, albeit at higher rates, are likely to get no credit at all. Banks will simply not lend to individuals and businesses whom they think cannot service the debt credibly at that capped ceiling. Sadly it is the most vulnerable who will be disqualified first as these are seen as high risk and high cost borrowers. As they are shut out of credit SMEs cannot implement growth plans and are unable to create jobs and wealth. The contraction in liquidity engendered by the cap may also mean there will be less money moving in the economy; Kenyans will feel that there is less money around and feel more broke as they cannot get loans to grow their business or meet personal costs.
However, one of the biggest factors behind why Kenyans don’t feel the rosy statistics is because most Kenyans operate in the informal economy whose performance is generally not captured in official figures. GDP growth and Ease of Doing Business data do not capture the reality of dynamics in the informal economy where over 80 percent of employed Kenyans earn a living. Therefore, one cannot extrapolate positive overall statistics as reflective of performance of the informal economy. Perhaps the incongruence Kenyans feel stem from the fact that the economy from which millions earn a living is largely ignored. The hardship and challenges of Kenyans living and working in the informal economy continues to be neglected and thus policies and action that could help most Kenyans are never developed or implemented. Until the gross negligence of the informal economy is addressed, one can expect the average Kenya to feel a disconnect between economic growth and their lived reality in the informal economy.
An additional factor leading to the disconnect between economic growth and the lived reality of most Kenyans, is that the country seems to be in a ‘jobless growth’ rut where GDP growth doesn’t lead to formal job creation. This is partly because Kenya’s economic growth is services driven, and services produces far less jobs than manufacturing. Until the manufacturing sector is given the attention it requires such that economy is driven by export-led manufacturing, the ‘jobless growth’ challenge will continue. Bear in mind that manufacturing in this country is under threat because the cost of doing business for manufacturers in Kenya remains high particularly with regards to electricity, transport, cross-county taxes and, frankly, corruption. Kenya is currently deindustrialising as the manufacturing sector grows at a slower rate the economy. The manufacturing sector grew 3.6 percent in the Q1 and at 1.9 percent in Q3 of 2016. Compare this with a GDP growth rate of 6.2 percent in Q2 and 5.7 percent in Q3 of 2016; this means the share of manufacturing in GDP is shrinking. This should be of concern because, as analysts point out, industrial development is crucial for wealth and job creation. Exacerbating the already slow growth of the sector this year are the drought and cheap imports. As the Kenya Association of Manufacturers points out, the drought is having an impact on raw materials in sectors that rely on agricultural products. The drought will also lead to a higher cost of goods and services for Kenyan as electricity tariffs are adjusted upwards. The manufacturing sector is also threatened by the fact that the country has allowed the entry of cheap goods, particularly from Asia, to flood the market; goods that benefit from protection and subsidies in their home economies which is not reflected here. These constrain the growth of the sector in Kenya.
Finally, financial mismanagement at both national and county levels is compromising growth. The top allegations of the financial mismanagement of public funds according to media reports include the laptop tendering debacle, NYS scandal, Ministry of Health and the GDC tendering scandal. It seems that government funds that are meant to be economically productive and generate economic activity do not reach intended projects. Thus the economic stimulus that ought to be garnered from public never happens because projects are either under-financed or not financed at all as public officials siphon money away from them. Further, business routinely complain that bribes have become a basic expectation of county officials around the country. A report released by the Auditor General last month revealed that Kenyans are asked to pay up to KES 11,611 by county officials; Mombasa County officials top the list of bribe-seekers followed by Embu, Isiolo and Vihiga. As long as this continues, jobs and wealth that government investment and financing could have created will not materialise.
So what should Kenyans demand from those vying for power in this year’s general election? The first and foremost is ending financial mismanagement where even opposition is culpable as counties under opposition engage in corruption as well. Kenyans must demand a clear plan that will take serious steps to make financial structures more robust and punish those engaged in the financial mismanagement of public funds. Secondly, Kenyans should push for the government to provide a detailed analysis on the impact the interest rate cap is having on Kenyans and the economy. If the analysis elucidated herein is anything to go by, Kenyans should also seek the reversal of the interest rate cap as soon as possible. Thirdly, Kenyans ought to demand the development of a policy aimed at supporting and developing the informal economy at both national and county level. The gross neglect of this sector must end given that it is in the informal economy where most Kenyans earn a living and are employed. Finally, Kenyans should push for a detailed plan on industrialisation for the country. While the Ministry of Industrialisation has developed the Kenya Industrial Transformation Programme, a detailed work plan and timeline of deliverables ought to be developed and shared so that Kenyans can reap the dividends that green industrialisation can create.
Anzetse Were is a development economist; firstname.lastname@example.org
This article first appeared in my weekly column with the Business Daily on February 19, 2017
Over the past few months we have seen a severe drought ravage our country. The loss of life and livelihood for so many Kenyans is truly devastating. But what we must realise is that the consequences of the drought impacts the lives of the populations in the domicile counties as well as the rest of us. The reality of the matter is that the drought is not only affecting the lives of our fellow Kenyans, it is also affecting monetary policy.
The Central Bank of Kenya (CBK) is in a tight fix with regards to the ramifications of the current drought; there is pressure to increase the Central Bank Rate (CBR). We have a serious drought on our hands; not only will it increase the cost of food, it will increase the cost of electricity. As the drought bites, food will be more scarce and the demand for food will outstrip the supply thereby placing upward pressure on food prices. Additionally, as a significant part of our electricity grid is powered by hydroelectricity, the lack of rain means that the dams do not have a sufficient amount of water to run effectively; as a result the country will have to switch to more expensive sources of power such as thermal power that will drive up the cost of electricity. These factors will drive inflation upwards and will force Kenyans to pay more for basic goods and services. On top of this is the increase in the cost of fuel. So the pressure here is to increase interest rates and the CBR and limit money supply to control inflation. Yet in doing so, the CBK will make money even more expensive.
At the same time, we are witnessing the effects of the interest rate cap; liquidity is tightening. Kenyans are finding that they no longer have access to the loans they used to qualify for. Small and medium businesses are seeing that they no longer have access to the credit lines to which they had access to in the past. Kenyans can no longer get that loan to boost their business or pay for emergency medical expenses because banks have become very risk averse. In a country with a poor tracking system with regards to credit worthiness, banks cannot differentiate between good and bad borrowers. As a result they seem to prefer to just limit lending altogether and restrict the amount of credit they are giving out to individuals and businesses. So what does this mean for the average Kenyan? Well it means that they have less money; and when you couple this with the cost of food, energy and transport increasing, Kenyans are feeling increasingly broke. Kenyans will have to pay more for access to the same quantity of food, energy and transport that they used to access in the past. In short, life is becoming more expensive. But ironically, the best way to address the effect of the interest rate cap would be to increase interest rates to a space where banks feel they can lend comfortably. We are in an interesting space where increasing interest rates may expand liquidity as more people would qualify for credit.
So there are several sources pointing for the need to increase interest rates. However, in increasing interest rates, monetary policy by the CBK will make money expensive for Kenyans. In increasing rates to mitigate the drought and address the effects of the interest cap, the government would be doing the opposite of what the interest cap was created to do; give Kenyans access to cheaper loans.
Thus monetary policy is in a tight fix; there is a need to increase the interest rate but in doing so the CBK would engender an increase in the price of credit. It seems the CBK must ride off this season of contradictions and see when a space will open up for effecting monetary policy changes.
Anzetse Were is a development economist; email@example.com
Kenya’s 2016 rate caps continued to inflict damage on the wider economy. In its latest assessment of the Kenyan economy, the IMF warns that they could cut growth by up to 2 percentage points in 2017 and 2018 too. The rate caps have added to the sense of crisis triggered by last year’s liquidation of one bank, and receivership of two others. Inter-Bank lending volumes have fallen by about a third, and large banks are extremely reluctant to lend to smaller ones. CGTN’s Ramah Nyang spoke to me to better understand this crisis in the inter-bank market.