News Analysis: Kenya in dilemma whether to cap banks' interest rates

Kenya is in a quandary on whether to cap commercial banks' interest rates or leave the market to control itself.

The East African nation's financial sector has for years been market driven, allowing banks to offer interest rates based on their own internal calculations.

The result is that commercial banks have been charging as high as 27 percent lending rates as they offer as low as one percent yield on customer savings.

Kenyan legislators, however, have moved to rein in the situation by passing a law to control interest rates. There have been three past attempts through Parliament to limit bank charges, all of which came to naught.

However, this time round, the MPs are determined to go the whole hog as they lobby support from the public and ask the president to assent to the law.

Banks, on the other hand, are too lobbying for support from industry players and the regulator Central Bank of Kenya (CBK), and have asked the president not to assent to the law.

The proposed law seeks to cap lending rates at 4 percent above the Central Bank Rate (CBR) and sets a minimum interest rate for deposits in interest-earning accounts at 70 percent of the CBR.

According to proponents of capping of interest charges, banks are exploiting their customers through their high rates to make billions of dollars in profits.

Latest data from the CBK indicates that the banking sector profit in 2015 stood at 1.3 billion U.S. dollars, mainly driven by interest earnings from customers.

Lending charges currently stand at an average of 19 percent, having risen from 18 percent in March.

The financial institutions, on the contrary, offer customers a maximum of 1.5 percent yield on their savings, according to the Central Bank.

"Banks should stop intimidating Kenyans that capping interest rates would make credit expensive," said Jude Njomo, a legislator who sponsored the bill in Parliament.

He said that for many years, banks had failed to lower their lending rates despite the regulator's appeal and the coming up with the Kenya Banks Reference Rate, on which lenders were to base their charges.

The Kenya Banks' Reference Rate stands at 8.9 percent. It is based on averages of the CBK's indicative rate and the 91-day Treasury bill yield over six months.

Banks are then expected to add a premium on the average based on their costs that include insurance and credit risk.

CBK's benchmark rate is currently at 10.5 percent while yields on the 91-day bill stand at 8 percent. An average of the two rates totals 9 percent.

CBK is leading the opposition to capping interest rate, noting the move is counter-productive.

On Thursday, CBK said it would ensure an agreement it signed with lenders to bring down the cost of credit is implemented.

The Nairobi Securities Exchange (NSE) has also weighed in, noting the capping of interest rates may negatively impact the banking sector with a knock-on effect of dampening broader stock market valuations.

"A low interest rate regime is socially beneficial as it also protects against usurious lending practices and can be used to guard against the exploitation of vulnerable members of society. However, we are of the considered opinion that self-regulation will create symmetry and sustainability of the financial services sector at large," said NSE CEO, Geoffrey Odundo.

As the two sides fight, Kenyans are hopeful that whether President Uhuru Kenyatta signs the bills into law or not, they will be the ultimate winner.

"My take is that banks have realised that they cannot continue operating the way they are doing by charging high rates. If the president signs the law, well and good, if he doesn't banks should pick the cue and lower their charges," said computer seller Jack Ojiambo Friday. Endit