How Has the Interest Rate Cap Affected Business in Kenya?

The year 2017 was a challenging one for Kenya’s economy, which reported a GDP growth rate of 4.9% – its lowest since 2013 – according to the Kenya National Bureau of Statistics. Dropping from 5.9% in 2016, the slowdown of GDP growth can be attributed to a number of factors, including protracted elections, severe droughts, as well as a deterioration of credit growth in the private sector.

The latter comes on the back of a decision made in September 2016 to cap commercial interest rates at four percentage points above the Central Bank of Kenya’s benchmark rate.

The “cost” of credit

The cap was initially intended to lower the cost of credit and increase access for both businesses and individuals; however, almost 18 months after its
implementation private sector credit growth slowed to 2.1% in February 2018, its lowest since 2005.

The resulting credit squeeze lines up with the findings of the inaugural Oxford Business Group Business Barometer: Kenya CEO Survey, wherein 89% of respondents say the interest rate cap has made it more difficult or much more difficult to access credit.

In a country where small and medium-sized enterprises (SMEs) form the bulk of the private sector, economic performance remains highly contingent on the prosperity of this business segment. After the introduction of the interest rate cap, banks felt the need to implement tighter risk-management tools, steering themselves towards safer avenues for investment. Consequently, smaller borrowers, such as SMEs, have found themselves increasingly shunned by such lending institutions.

Amid slowing inflation and in an attempt to support economic activity, the central bank’s benchmark interest rate was reduced from 10% to 9.5% in March 2018, reaching its lowest level since May 2015. Whether or not this reduction will reinvigorate credit growth is still to be proven.

Further amends to the interest rate capping law are currently being considered and are expected to be reviewed after June 2018. According to the World Bank, improving credit growth in the private sector would not only require scrapping the interest rate cap altogether, but also implementing reforms that favour better and more affordable access, such as those focused on the adoption of credit scoring and enhancing financial literacy.

In every challenge lies opportunity

On the back of the successful implementation of the mobile money service M-Pesa, Kenya has continued looking towards technological solutions in its effort to enhance SME access to credit.

Kenyans have recently been exploring new ways of introducing blockchain technology into their daily business activities, as the distributed-ledger system is perceived as a safe platform for data storage.

One example is food distributor Twiga Foods, which recently partnered with IBM Research to create and store digital profiles of small-scale traders in a blockchain. The project aims to establish a reliable database for the company and banks to assess creditworthiness and grant micro-loans to small-scale food retailers.

Considerations are also under way to extend the digital platform to other areas, such as land registration.

Such developments have led Kenya to earn the title of Silicon Savannah. Projects such as Konza City – a $5bn smart city under construction 60 km south-east of Nairobi – will play a crucial role in contributing to economic growth in the medium to long term.

Brighter prospects

Though concerns surrounding credit growth to the private sector are likely to continue throughout 2018, a recovery in the tourism sector and abundant rainfall in the second half of 2017 point to bright prospects for overall economic growth.

Our findings also point to increased economic optimism among the business community, with 95% of the 136 CEOs surveyed saying they are either positive or very positive about local business conditions in the coming 12 months. Meanwhile, 75% say that it is likely or very likely that their company will make a significant capital
investment during that same period.

In terms of GDP expansion, 73% of respondents forecast growth for the next 12 months would fall between 4% and 6%. By comparison, the IMF projects growth of 5.5% for 2018.

Shaping the future

Establishing an enabling environment for the country’s private sector and SMEs to grow and carry out their investment and development plans in the years to come will play a crucial role in the success of President Uhuru Kenyatta’s “Big Four”. Unveiled at the end of 2017, the agenda is a blueprint for social and economic development that targets four key pillars – manufacturing, affordable housing, health care and food security – over the next five years.

As these four sectors are major sources of job creation, employment indicators in the years to come will also be shaped by their ability to put the required jobs and skills on the market. Of the CEOs surveyed, 40% identify leadership as the skill in greatest need, followed by engineering (24%), and research and development (15%).