Capping cost of credit is choking economic growth - Daily Nation

Capping cost of credit is choking economic growth

Tuesday July 17 2018

Treasury secretary Henry Rotich

Treasury secretary Henry Rotich. FILE PHOTO | NMG 

By GEOFFREY RIOBA

The 2018/19 Budget touched on various issues, including interest rate capping.

In his introductory remarks, Treasury Cabinet Secretary Henry Rotich indicated that among the key achievements recorded by the government in the last five years has been macroeconomic stability, that is, inflation within limit coupled with stable interest rates.

While I join the CS in applauding the government for the key achievements mentioned, I also tend to harbour a differing opinion regarding the stability of the interest rates in relation to economic growth.

The interest capping law which became operational on September 14, 2016 has hurt the economy in more ways than one. For instance, commercial banks have embarked on laying off staff as a measure to cut on costs and have tighten access to credit facilities for both individuals and private companies.

Individuals and companies alike are experiencing challenges accessing credit facilities from commercial banks. Credit is needed for business expansion and growth. It is worth noting that most of the successful small and large scale businesses in the economy are run by loan facilities from commercial banks and other lenders. Failure to make credit facilities readily available and affordable, results in stunted economic growth due to reduced business activity, hence negatively impacting on the country’s Gross Domestic Product (GDP).

In a nutshell, this has led to a decrease in both small and large scale business activity, including but not limited to the ‘‘mama mboga’’ kiosks.

Emerging evidence shows that commercial banks have adjusted their business models to favour declining financial intermediation and have directed their lending towards large corporate borrowers and government thereby shunning small scale businesses which are perceived as “risky” borrowers. Although the banking sector is struggling to sustain the pressure, the evidence shows that there is reduced competition and a decline in profitability in general, creating a perfect storm for borrowers and the whole credit industry.

Capping of interest rates has contributed to unemployment in a big way. There are more than 50 commercial banks in the country licenced by the Central Bank of Kenya (CBK). This means that if these banks were operating in a regulated, but competitive and functional, business environment, each bank might be able to absorb approximately 10 to 20 graduate employees yearly, thereby acting as a double-edged sword to address both unemployment and economic growth.

Lastly, it is evident that there has been a decrease in revenue collection by the Kenya Revenue Authority. This downturn in collection has been contributed by the effects of interest rate capping.

Commercial banks and other corporate organisations exist for the sole reason of creating value for the consumer, be it business people or indeed anyone else. This is often referred to as external value creation, which subsequently translates to surplus revenue for the shareholders, which in turn flows into the economy in the form of taxes paid. For this reason, a bank or company that is able to create value for the customer is rewarded by the market through formulation of efficient and effective policies which generate greater cash flows that accrue to the shareholders and finally to the economy as a whole.

Mr Rotich in his budget speech, has indicated that he has proposed to amend the 2016 Banking Act in order to enable banks and other lenders to advance more credit to borrowers who have been profiled as “high-risk” borrowers. The Finance Bill 2018, seeks to abolish the capping of the interest rate by repealing Section 33B of the Banking Act to enhance easy access to credit facilities across the economy, especially among the small scale and medium scale business enterprises. This will also lead to effective and efficient monitory policies across the economy.

I am convinced that the forth coming proposed amendments by the Cabinet Secretary as well as the Banking Act amendments will address the above predicaments facing our economy.

The writer is a tax consultant at EY. The views expressed in the article are not necessarily those of EY.