Intelligent. Kenyan.

Published: 9 months ago

A Pound Of Flesh

English literature classes were one of the few things I liked about the Kenyan high school experience. In my year, we studied William Shakespeare’s The Merchant of Venice, a play about many things, but central to which was the plot about the Venetian moneylender Shylock (who was Jewish), who lends the Christian shipper Antonio money. Antonio’s friend, Bassanio, needed the money to woo Portia, a Venetian heiress. Because of Antonio’s anti-Semitism towards Shylock, the conditions of the loan are pretty steep: Antonio was to pay up in three months or Shylock would have a pound of his flesh. This being a Shakespearean play, of course Antonio doesn’t manage to pay the money back in time and a dance around the pound of flesh Shylock is owed becomes central to the plot.

In the years that have passed since Shakespeare wrote this play, the word Shylock has come to mean a (ruthless) moneylender that charges extremely high interest rates. Shylocks are also called loan sharks. However, given that definition, and the disdain with which Kenyans hold their banks, I would think they also fit the description. Many of us have come across stories of bank loans causing people so much stress that they are hospitalized, or worse, die. I am reminded of this story I read on Larry Liza’s Facebook page in which a taxi driver died and was found with a note in his pocket saying “Bank imeniua.” They got their pound of flesh, I guess.

So, it is no surprise that we recently managed, after 16 years and three failed attempts, to regulate bank interest rates by law using the Banking (Amendment) Act, 2015. We have known this Act since it was known as the Donde Bill, named for its proposer, former Gem MP Joe Donde. Donde rightly felt that borrowing was out of the reach of many Kenyans, with interest rates in 2000 as high as 24%, and he pointed out that Kenyan businesses were dying because of these expensive loans: when they were unable to service the loans, their assets would be auctioned, leaving them unable to operate.

While the law has made some key changes, the most outstanding ones have been with relation to interest rate capping. It caps the maximum rate for a credit facility at no more than 4% of the base rate set and published by the Central Bank, and sets the minimum interest rate one can earn on a deposit held in Kenya to at least 70% of the central bank rate. The current base rate used by the Central Bank is 10.5%, setting the maximum interest rate one can be asked to pay at 14.5%, while the minimum that can be paid on deposits is 7.35%. The Commercial Bank of Africa, though, has decided to use the Kenya Banks Reference Rate (KBRR), which is 8.8%, making their interest rate for loans 12.9% and interest paid on deposits 6.23%.

The Act requires that banks or financial institutions that offer loans to borrowers disclose all charges and terms related to that loan. The people need to understand all the charges and rates that apply before making their decision. It also makes it illegal for persons (which banks and financial institutions are) to enter into agreements to borrow or lend at interest rates in excess of those prescribed by the law. It prescribes to fine banks or institutions that contravene this to a fine of no less than 1 million shillings, a one year jail term (for their employees), or both.

Predictably, many experts have cautioned against efforts to cap interest rates, with reactions ranging from mild cautionary messages to warnings of doom. Before this law, banks would comfortably pay you 2% interest on your deposits, while charging you an upwards of 25% for loans, many times with the discretion to increase your interest rate or payment period (this would always be hidden in obscure terms and conditions). There is a well-worn economic argument about interest rates: they restrict the flow of capital and distort financial markets by going against the theory of free markets.

This, of course, is hinged on multiple assumptions. One, that the market is a free market, which is an economic system in which prices are determined by unrestricted competition between privately owned businesses. In a free market, the prices of goods are dictated by suppliers and consumers, and the credit market is just like any other market. The sellers are the banks and financial institutions, and the buyers are the borrowers. The price is the interest rate. The lower the quantity of credit, the higher the interest rates, and the higher the quantity of credit, the lower the interest rate. But, from what we know, there are no actual free markets globally, and this extends to the credit market.

When it comes to restricting the flow of capital, the argument goes that banks and financial institutions could grow much slower, withdraw from the market altogether, reduce their presence in costly markets (for example rural areas), or just find a way to be less transparent about their total loan costs. Some say that banks will now stop lending to the average Kenyan citizen, and focus on more low risk borrowers, such as government and established corporations whose risk of default is low. But, as we know, lower risk equals lower return (they would have to charge these borrowers less), and the banks are in this to make money, and the money is with the higher risk borrowers, so this argument is moot.

Then, there are those who cite “the environment”, saying hat we recently increased the banking capitalization requirements, and now we are reducing their margins, and this is entirely too much for banks to handle. According to this theory, their fastest route to meeting our capitalization requirements is generating as much profit as they can, and we are making this difficult since moving forward, they will have less retained earnings (which are factored into capitalization). Poor, poor banks.

The thing I find missing from all these theories is regard for the Kenyan, who these banks are actually supposed to serve. The assumption being made here is that these banks were pro-poor to begin with, an argument that cannot be backed up by data. The very existence of chamas and SACCOs provides goes against these assumption. In many chamas, every member contributes monthly and the total kitty is given to one member to pursue a cause of their choice, and it goes round and round, quite possibly ad infinitum, hence why they are also called merry-go-rounds. Some chamas invest this money into projects and assets increase the economic stability of the chama members as opposed to distributing it monthly. SACCOs also provide an alternative to these banking and finance institutions that have a history of not being pro poor. They provide loans at relatively low interest rates (for example 12%) and do not have the same asset requirements as banks.

Before this Act, how many Kenyans are able to get an unsecured loan from the bank anyway? The ones with employment contracts and salaries. These are only 2.3 million Kenyans, out of the over 43 million people in our population. 77.9% of our jobs are in the informal sector, which is actually the largest informal sector in Africa. How many of these people could get a loan from the bank without some kind of security? Close to zero. So why all this hue and cry, yet banks were never serving mwananchi anyway? The banking and finance industry has a history of being hostile to the average Kenyan.

I am optimistic about the situation moving forward. There is still a lot of room for banks to provide services to Kenyans (given that they were serving such a small cross-section before anyway), grow and make money. It just has to be fair now. Banks have been treating all customers equally, offering them the same credit terms, yet there is a stark difference between a person who has taken 10 loans and repaid them all on time, and a first time borrower. We have credit reference bureaus (CRBs) in Kenya that can assign credit scores based on one’s history with debt, and there is no good reason why these credit scores should not be taken into account when offering loans. Failure to do so just smacks of laziness and complacency on the part of the banks.

There is also research that shows that when the legal ceiling is above the market rate of interest, which in Kenya is currently 10.5%, the law has no effect at all. The market forces of supply and demand are not bound by the usury ceiling, and the equilibrium price and quantity of credit are unchanged.

Finally, I think this law is going to lead banks to pick areas of specialty, in which their knowledge of the markets in question is their competitive advantage. There could be banks that are focused on agriculture, on manufacturing, on technology and so on. Then, these banks would become the banks of choice for people in those respective fields, and grow their market share and profits in this way. This way, the banking and finance sector can become a key driver of the growth of Kenyans and their enterprises, as opposed to being a key factor in their impoverishment.

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