SMEs hit hard as more bank credit flows to Treasury bonds

One of the reasons that has triggered a widespread chorus for repeal of the law capping interest rates, is that it has starved small businesses of credit.

The pressure to scrap the law has been mounting for a while with banks leading the assault.

The Treasury and Central Bank have also strongly indicated a desire to get rid of the legislation saying it has turned into a millstone around the economy’s neck.

Analysts believe it is only a matter of time before it is done away with.

However, while the law still holds, SMEs are facing tough times getting credit as they are considered too risky by lenders.

Investment by banks in government securities has been growing as rapidly as the lending to small businesses has been falling.

While the law was meant to spur uptake of credit and stimulate the economy, the reverse has indeed happened.

The latest report by Cytonn Investments on banks listed on the Nairobi Securities Exchange (NSE) shows that uptake of treasuries has grown by 25 per cent in the first quarter of this year, outpacing loan growth of 3.2 per cent.

“The effects of the Banking (Amendment) Act 2015 have continued to be felt in the sector, with banks recording a two per cent decline in loans and advances to Sh1.9 trillion in the first quarter of 2018 from Sh2 trillion in financial year 2017.

Credit standards

This could be attributed to banks tightening their credit standards owing to the Banking (Amendment) Act 2015,” analysts at Cytonn Investment said.

The law limits lending rates at four per cent above the Central Bank Rate (CBR), and a floor on the deposit rates at 70 per cent of the CBR.

Besides pushing for the removal of the law, the Treasury has formulated the draft Financial Markets Conduct Bill, aimed at assessing the whole credit management in the economy.

The Bill seeks to ensure better conduct by banks and other lenders in terms of extending credit to retail financial customers.

The proposed law does not define banks as the sole lenders, opening the door for other credit companies to offer loans.

The Bill also seeks to protect consumers, mainly retail, by ensuring their credit contracts are clear and well understood in terms of interest, fees, charges and costs on credit facilities, thereby removing the opacity that has been existent in loan prices.

“However, the Bill only addresses consumer protection and fails to address the problem of access to credit for the private sector, mainly by SMEs,” the analysts said.

“We are of the view that a lot more still needs to be done to address the fact that banks will most likely still prefer to lend to the risk-free government as opposed to lending to a riskier retail customer at the current 13.5 per cent, (four per cent points above the current CBR of 9.5 per cent) as dictated by the Banking (Amendment) Act 2015.”

A study on banking sector conducted by analysts at investment bank Genghis Capital showed that in the one-and-half year the law has been in place, there has been credit rationing in certain sectors especially SMEs partly due to difficulties to accommodate customers with different risk profiles under the 14 per cent pricing.

Average loan value increased by 47 per cent as per the Kenya Bankers Association (KBA) (2016-2017) despite a drop in loan accounts by 1.2 million, indicating a lower credit access by small borrowers.

Large corporates

Large corporates are still borrowing large amounts.

“There was lower profitability across the sector from the drop in net interest income. Sector profit before tax fell by 11.7 per cent year-on-year to June 2017 compared to pre-cap June 2016,” the analysts said.

Banking business restructuring including, branch consolidations (closure of over 20 branches) and job cuts (over 1,400 employees).

They also observed that there was a focus on non-interest revenue (NIR). Fees and commissions together with trading income compensated the decline in interest income - NIR contribution was at 31.8 per cent in 2017 compared to 28.3 per cent in 2016.

They also observed that there was higher demand for credit due to perceived affordability.

Average number of loan applications rose by 238 per cent immediately after enactment in September 2016. This has since normalised.

There was also fast tracking of banking sector consolidation, with acquisition of Habib Bank by Diamond Trust Bank (DTB) and Fidelity Bank by SBM Holdings.

Growth of informal and mobile lending channels increased driven by financial technology (fintech) lenders.

Similarly, there has been limited entrepreneurial initiatives across the Micro, Small and Medium Enterprise (MSME) sector.