CURRENT LENDING RATE BY BANKS IN KENYA

We have heard more than several  times the deputy president  Samuel Ruto talk about high lending rates which Kenyan banks offer . This have led me to do a little research on this matter, I wont promise much now  all I will ask you to join me on this journey and at end of it you should be able to make your decision.

My main concern is whether  interest  rates influence the demand for credit by the poor , small and medium scale enterprise in Kenya and also whether relationship exist between interest rates and loan repayment  by the poor and SMES.

The banking system and the financial system more generally, is a key pillar in any economy, bearing in mind its basic function, which is to reallocate funds from agents with a surplus to those with a deficit. By solving the problem of asymmetric information among agents and by diversifying risks, banks manage to decrease the costs of the exchange of financial funds and enable their efficient allocation within the economy. Consequently, the price of financing through bank loans (i.e. lending rates) and the efficiency of the banking system (as measured by interest rate spreads) are essential for the possibility of allocation additional financial potential in the economy, and thus for the acceleration or sustainability of economic growth. These among many other concerns are making our deputy president alert about the current lending rates in Kenya

We should also consider factors that lead to poor loan recovery by banking/non-banking institution includes high interest rates, poor appraisal, weak monitoring, late disbursements of loans and negative attitude towards loans.

To focus on relationship between interest rate and demand for credit on one  hand and interest rate and loan repayment  on the other hand we must consider two hypothesis. One is the Mckinnon-Shaw hypothesis shows a low real interest rate is a disincentive to savings thereby reducing the availability of credit. The main policy prescription of Mckinnon-Shaw hypothesis is that the financial sector should be liberalized for interest rate to be determined by interplay of demand and supply in process interest rate will increase saving mobilization.   The other hypothesis we are going to consider is by Stilglitz-Weiss who are view that interest rate cannot function as an allocator of credit because borrowers with higher risk may be considered rather than those with potential good because of market failure brought information asymmetry. In other word it states that higher interest rates bring about adverse selection and moral hazard.

Looking at the current debate , I would say our deputy president is supporting Stilglitz-Weiss  hypothesis(higher interest bring moral hazard), I remember him asking how averagely Kenyan banks a lending out loans on interest rate of 20% and yet the deposits in customers account earn interest rate of 2%.  This looks totally unfair!! On next post I will link todays theory to what is happening on the ground.

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