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December 17, 2018

Low interest rates are good for inclusive development

unsuccess full: Police officers outside the National Treasury Building. Little has been done to persuade banks to lower interest.
unsuccess full: Police officers outside the National Treasury Building. Little has been done to persuade banks to lower interest.

The increase in the rate of Treasury bills in the past few months has since reversed with the 91-day rate dropping from a high of 22.5 per cent in October to a low of 9.2 per cent last week.  The drop has been received with a sigh of relief by the business community and consumers, who were already bracing themselves for a raise in the cost of credit. 

The Treasury bill rate is the cost at which government is willing to borrow from the market and because government would not ordinarily default on its own currency, it is interpreted as the lowest achievable rate.  An increase in this rate is an automatic signal to the market that interest rates should raise. Following the high rates, banks sent notices for rate increases to concerned customers, some raising borrowing rates to over 30 per cent.   The negative consequences of such high rates to the economy cannot be overemphasized; ranging from loan defaults, cutback on investment plans, staff layoffs and a stagnant or even declining economy.

However, to the surprise of many, some banks have gone ahead to implement the rate increase notices despite the lowered Treasury bill rate.  Pressure to set aside the notices from the regulator, the Central Bank of Kenya, and even Treasury has done little to persuade the banking fraternity that the rate increases are unwarranted.  With the bankers lobby group, the Kenya Bankers Association joining in the call for rate reduction, it remains unclear who will explain to the public why banks are reluctant to adjust the rates downwards.  The industry is apparently not sufficiently philanthropic to accept that the window of opportunity to raise interest rates has since closed, and it’s time to move on with lower rates.

The Central Bank has gone ahead to advise consumers to vote with their feet and move their accounts to banks that have lower rates.  Good advice, especially if the industry is competitive, information is readily available and the cost of switching from one bank to another is minimal.  However, this advice is better said than done, and many banks are too informed to be deterred.   

Consumers, businesses and even banks know that switching accounts from one bank to another is time-consuming, burdensome, and even expensive. For one, the apparent herd behaviour in the industry means that most banks are reluctant to lower the rates, hence making it difficult to identify which exceptional banks are charging lower rates.  Secondly, even for the least complicated loans, such as unsecured personal loans, switching from one bank to another comes with upfront charges, such as loan set up fees which range from 1-2%, and which may nullify any savings from a lower interest rate.  It gets more complicated when it comes to secured loans, because assets given as security, such as vehicles and houses have to go through a lengthy legal process.  This may involve valuation, discharge from current lender and charge to new lender, all of which involve use of expensive professionals and government charges in terms of stamp duty.   In reality, switching accounts from one bank to another is rarely a less expensive option. This makes the loss of customers and market share less of a concern for many banks.

Besides, economists will tell you in an oligopolistic market structure, where a few players dominate the market and set the standards for the rest, prices remain sticky.  This is because any attempt by one player to reduce prices is followed by the others, and thus the player is unlikely to succeed in increasing market share or gaining competitive advantage.   Such a structure does not provide any incentive for price reductions.  

Nevertheless, it is the high time that the banking industry learnt a lesson or two from the communications industry about being responsive to customers and partnering with society to achieve inclusive development.  A few years ago, mobile calling rates were prohibitive to the extent that 'flashing', where a caller would terminate a call as soon as the dial tone is heard, was common.  It was then expected that the receiver of the flashing, who was expected to be economically better off, would call back.  Recognising that the habit lacked basic courtesy and was straining relationships, the mobile providers came up with the “please call me” facility that was available free of charge.  Better still, with the reduced mobile calling charges, the use of the “please call me” facility has gone down tremendously, and instead almost every citizen can afford to make that social and business call with ease.  The communications industry can pride itself with having over 30 million customers that use a variety of their services every day. 

Of course, the introduction of mobile money transfer services, savings, lending and payment options means that a mobile phone is more than a communications gadget.  More importantly, these innovations have delivered value not only to the communications companies, which remain among the most profitable businesses, but also to society at large. In fact, the communications industry is now operating in what was traditionally considered the preserve of the banking industry.

The banking industry has the challenge to be, and to be seen to be, more responsive to society, and to recognise that lowering interest rates is not just a philanthropic gesture; it can be a sound and profitable business strategy. 

That said, it is still incumbent on the CBK and the government to address the structural inefficiencies of the financial industry that continue to support persistent high interest rates at the expense of consumers, the business community and the economy. 






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