20100406
allafrica

Commercial banks have shrugged off efforts by Central Bank to have them cut their interest rates, citing the cost of funds and level of risk-- dashing borrowers' hopes for cheaper credit.

The Central Bank has made determined efforts to push down lending rates by cutting its rate to the current level of 6.75 per cent but banks, in a new CBK survey, have cited it as playing a very small role in lending rate determination.

While the Central Bank Rate drop has succeeded in pushing down rates at which the government borrows from the private sector through T-bill auctions as well as decline in rates that banks lend to each other, it has had no impact on private sector base lending rate that currently stands at nearly 15 per cent, about the same level as when the CBR was nine per cent in December 2008.

Major factors

The actual lending rate is normally three to 10 percentage points above the base lending rate, depending on the risk premium place on a particular client.

At the same time, both local and foreign-owned banks reckon that their greatest cost is determined by the cost of funds as well as the credit risk of a client rather than the CBR.

Other major factors in determining lending interest rates to the private sector are profit margins, administrative costs, quality of collateral, return on capital, the level of capitalisation while CBR comes in the eighth place.

The level of capitalisation determines the total amount that can be lent out but with a smaller capital, the funds lent can yield more income for the bank if the lending rate is higher.

A CBK survey on the perceptions for this year's credit access said: "Most banks (50 per cent) expect lending rates to remain at the same level in 2010 relative to 2009. Main reason cited is that recovery of the global economy likely to spur demand and competition for credit by corporate entities."

The institutions that intend to keep rates the same are mainly the large and small banks which, respectively, have the ability to offer large loans to big number of borrowers and those that tend to have niche markets must charge high to maintain their profitability given their small asset base.

Medium-sized

Forty-five per cent of banks - which are mostly medium-sized - however expect the rates to fall on the back of declining credit risk, adoption of the credit reference bureau, moral suasion from CBK, high liquidity levels, declining yields on Treasury securities, and increased competition for customers.

For banks, the cost of funds in reality is about the cost of collateral or establishing the authenticity and value of an asset given as collateral when an entity or individual seeks a loan.

CBK governor Prof Njuguna Ndung'u has been asking banks to reduce lending rates but this indicates that they do not intend to heed his word.

Indeed, the recent Monetary Policy Committee (MPC) report lamented that interest rates spreads remain high even with the decline in the cost of funds and the CBR.

The governor said that the oligopolistic structure of the Kenyan banking industry was partly responsible for the failure to respond to regulator's signals to reduce lending rates.

Although the governor did not mention it, there is also a possible oligopoly where the few players in the market collude in fixing prices and force consumers to pay artificially high prices.

This happens more readily where there is competition by borrowers for credit as is expected to be the case for the better part of this year.

"Companies, consumers and even the government are coming back to the credit market for money to finance new projects in readiness for the expected economic upturn", said Mr James Macharia, the managing director of NIC Bank.

He explained that for banks, the upward lending profile is in response to enhanced opportunities stressing that the money has always been there but what has been lacking are the takers.

Investor confidence

According to the CBK survey, even the private sector expects that its demand for credit this year will rise for the rest of the year relative to January 2010 due improved investor confidence in the economy, increased import demand for raw materials and borrowing to finance expansion.

The government has predicted that the GDP will rise 4.5 per cent while the private sector expects 4-5 per cent, the World Bank has set 3.7 per cent while the IMF has put it at 4.0 per cent.

This is against 2009's growth of about two per cent and 2008's 1.7 per cent.

The banks themselves intend to give out more loans because of the recovery of the global economy, improved agricultural performance due to good rains, lower hydro energy costs, improved infrastructure and the impact of the fiscal stimulus package amidst a stable political environment.

Credit availability

In fact, 40 per cent of the banks expect to raise credit availability by more than 10 per cent.

The private sector is so buoyant about the economy that 62 per cent of firms expect that inflation will either decrease or remain at the same level as in January when it was at 4.7 per cent.

They may be right because inflation in March fell to 4.0 per cent against 5.2 per cent in February.