Central Bank of Kenya
Sterling Capital

Cost of domestic loans falls by 1.4 pc

The State has borrowed from the domestic market at a relatively lower cost since the interest capping law took effect almost two years ago, a new report shows.

An analysis by investment bank Sterling Capital shows that the cost of loans have in some cases fallen by two percentage points (200 basis points) compared to the pre- and the post-rate cap era. The average over the period however is a fall by 1.4 percentage points.

While borrowing from the domestic market, the Central Bank of Kenya (CBK) that acts on behalf of the government in the market, has consistently rejected expensive bids by investors thereby causing the fall in the cost at which the State had been borrowing during the period.

“We compare the domestic debt yield curve pre and post the introduction of interest rate caps. We observe a significant drop in yields on domestic debt with an average decline of 1.4 per cent across the curve,” said Sterling Capital. The analysts also noted the effect on the Treasury bills, the short-term borrowing instruments of the government with a tenor of between three months and a year.

“The impact of interest rate caps on domestic debt is further emphasised by the decline in interest rates on Treasury Bills,” said Sterling Capital.

A major cause of the fall in the rates had to do with the shift of bank preferences for government securities to lending to private entities because the former have guaranteed repayment.

“A shift in commercial banks’ preference for Government securities often considered “risk free” as opposed to lending to a private sector that presented a considerably high level of credit risk,” said Sterling Capital.

The rates also saw an introduction of the minimum deposit rates which may have encouraged customers to increase interest-earning deposits. Currently the deposit rate stands at an average of 8.16 per cent compared to an average of two per cent or less in the regime before the rate cap.

The amount of total banking industry deposits stood at Sh2.62 trillion, but at the end of last December, they stood at Sh2.98 trillion – an increase of over Sh360 billion.

“Rising market liquidity which meant that banks awash with customer deposits were left with limited interest earning options other than interbank lending (observed by declining interbank rates) or purchasing Government debt,” said Sterling Capital.

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