Depends on who you are and how you look at it.
As a customer (whether an individual or a business), the lower the borrowing interest rates, the happier you should be since you are able to borrow more money at a lower cost. If the bill sails through, then your borrowing rate will drop from the current average of 18% to about 14.5% based on the current CBR of 10.5%. Looking at it from a different angle and going by the current borrowing rates, that will be about 22% drop in your cost of borrowing!
On the other hand, your passive income from your savings account will increase since the banks will be forced to pay you higher interest on deposits. Currently the savings accounts with commercial banks in Kenya earn an average interest rate of 1.4%. If the bill sails through you will start earning an average of 7% on your deposits held in interest earning accounts. That translates to a 400% increase in your interest income from your savings account!
Simply put, as a consumer you are gaining massively by both the decrease in lending rates and the increase in interest rates on deposits. Effectively the bill is aimed at putting more money in your pocket, boost your purchasing power and ultimately expand your spending horizons. From a customer perspective, the bill is a big yes!
The banker is in business and he sees everything wrong with the proposed bill. First it is eating into their revenues. By reducing the lending rates, the banks will have essentially reduced the price of their key product which is loans. When prices are lowered and the volumes maintained constant, revenues drop! In this case we talking of a drop of about 22% in the interest income for commercial banks. That is not good news for the bankers.
However, we can assume that the lower lending rates will trigger higher borrowing from the borrowers; hence the fall in lending prices will be offset by the rise in volumes and probably secure the interest income for the banks.
On the other hand, the increase in interest rates on deposits is not good news either to the bankers. This is a cost increase for their interest on deposits by about 400%! This is an invasion of their profits by all means. If I owned a bank, this would scare me to hell!
The bankers claim that with lower rates they will be forced to lend to lesser people due to higher credit risk associated with small borrowers. This could be true, but I tend to think that with the ultimate goal being to increase their shareholders’ wealth, the bankers will have to come up with other innovative ways for credit scoring in order to increase the number of borrowers to offset the low lending rates.
Having said that, from a business point of view, the bill sounds punitive and I would oppose it if I was a banker.
It is feared that with low lending rates and higher interest rates on deposits, the purchasing power of the individuals and businesses will increase and lead to high inflationary pressure which will eventually result in our local currency depreciation. This argument is very logical, but it assumes that the Central Bank of Kenya has no role to play in regulating the financial markets and maintaining currency stability.
Assuming the Central Bank of Kenya is independent and it executes its mandate as provided for by the law, then we have no reason to be worried. The CBK has monetary policy tools at its disposal to use as and when necessary to deal with inflation in the country. In case of a rise in inflation due to a huge supply of money in the economy, the CBK has the option of raising the Central Bank Rate (CBR), which will eventually increase the ultimate lending rate for the banks. This will then discourage borrowing and the money supply in the economy will be kept in check.
Besides using the CBR, CBK has the open market operations (buying and selling of treasury bonds & bills) and the required minimum reserve rates as additional arsenal to ensure inflation does not get out of hand and result to currency depreciation. Of-course there is the common argument about the lag between monetary policy implementation and the response from the market; but in the end lags will be reduced as our economy matures.
The proposed bill will make loans cheaper, resulting to increased borrowing which will eventually expand the spending horizons for consumers and businesses. The increased purchasing power will then push demand for goods and services higher; which will be good news for businesses (assuming consumers choose to buy local products).
On the other hand, the businesses will have to increase productivity in order to keep up with the growing demand. To increase their productivity, businesses will need more cash and they will be happy to go borrow from the banks due to the lower lending rates. In the end everyone will have benefited from the lower rates including the banker; who will potentially have more borrowers to lend to. The expanding businesses will employ more people to increase productivity, as well as increase their salaries; which will be a great development in reducing unemployment rate and increasing the average minimum wage.
The CBK however has to be very independent and always act in the best interest of the economy for the control measures in the proposed bill to be effective.
Lower lending rates and higher interests on savings collectively translate to higher purchasing power, higher savings, higher investments and finally higher productivity. This ultimately is reflected in a higher GDP for our economy which is the measure of economic growth. With the above background in mind, I would therefore recommend lower lending rates, with or without CBK’s control.