How banks and customers are navigating high-interest rates

Interest rate increments come at a time when the high cost of living is already squeezing Kenyans hard. [iStockphoto]

In recent months, banks have steadily increased the cost of loans, leaving borrowers with a massive debt servicing burden.

The higher interest rates could not have come at a worse time when Kenyans are grappling with the high cost of living.

In hiking the cost of loans, the lenders are taking a cue from the government's increasing debt security sales amid concerns that the resulting higher interest rates on bank loans could lower consumer and business demand for fresh borrowings.

In June this year, under the leadership of Governor Kamau Thugge, the Central Bank of Kenya (CBK) Monetary Policy Committee raised its policy lending rate to 10.50 per cent - the highest in seven years.

This decision was made in an effort to combat rising inflation and stabilise the weakened shilling, explained MPC at the time. The tightening of liquidity has had a negative effect on access to credit for individuals and companies, with borrowers set to feel the financial pain of the increased cost of loans.

There have been fears that interest rates could go to over 20 per cent, levels last seen before CBK introduced the interest loan capping.

Parliament had in 2016 passed a law that introduced caps on lending rates at four percentage points above the Central Bank Rate in a bid to ease the cost of loans for consumers, which among some lenders ranged between 20 and 25 per cent.

The law was however scrapped in 2019. The sharp rise in interest rates already threatens to choke economic growth as it has lifted borrowing costs and encouraged cutting costs or savings over spending, investing, and hiring.

"The rise in interest rates hits the consumer in a variety of ways - their loans, mortgages and credit card payments become more expensive, and the companies that provide goods they purchase increase prices to accommodate their own elevated finance cost," said EFG-Hermes Kenya Managing Director Muathi Kilonzo, adding that, however, loan penetration through commercial banks in Kenya is still relatively low compared to other emerging markets.

"A significant number of Kenyans borrow through digital products where the interest rates have always been very high relative to the traditional bank product and therefore an increase in the Central Bank rate is not particularly meaningful or even linked to their price of credit."

This meant that the majority of consumers would feel the effects of a higher interest rate environment through the increase in the cost of goods. "A consumer will therefore reduce their expenditure and do away with 'luxuries'," he said.

"On the investment front, a high-interest rate environment opens up an opportunity for investment in fixed income securities - offering high coupon rates for retail investors."

"In Kenya, we can see this trend clearly as retail investors increase their holdings of government securities or fixed deposits offered by banks (who have to pay more to attract deposits). For the equity investor rising interest rates are usually a positive trigger for banks to earn more and with the market trading at historic lows there are good entry points into the banking sector."

Some lenders tried to cushion their customers, especially those with existing loan facilities, through different approaches that included restructuring loan repayment.

In certain instances, the lenders say they absorbed some of the costs and did not pass the full cost to their customers.

"Due to the impact of both the macro environment changes and the Finance Act 2023, the bank is taking extra measures to cushion you. We are therefore offering you an opportunity to restructure your loan by maintaining the original instalment amount and extending the loan tenor," said Stanbic Bank in an offer to some of its customers in August this year.

Stanbic is among the commercial banks that offered customers an opportunity to restructure their loans and ease the increased burden of higher loan repayments.

Equity Bank said it absorbed some of the costs, giving a breather for many of its customers but taking a hit, with the profit for its Kenyan operation declining.

Profit after tax for Equity Bank's Kenya operations dropped 20 per cent to Sh19.3 billion for the nine months to September this year, perhaps an indication of the situation that the Kenyan economy is in.

This is even as the group increased profit after tax by 3.7 per cent to Sh34.6 billion on a strong performance by its other operations in the region.

Equity Group CEO James Mwangi noted that the local operation took a hit from cushioning customers from high-interest rates following a decision to absorb some of the costs.

"While profit is good, it should not be at the expense of livelihoods, it should not be at the expense of maintaining and preserving the micro, small and medium businesses," he said last week when the bank released financial results for the nine-month period to September.

"We did not pass the full price of high-interest rate, the full price of inflation and the full price of depreciation of the shilling to the customers. When you look at our balance sheet, you will see interest expense is growing much faster than interest income. This was deliberately done to accommodate and carry the customers for a period of maybe one year until they adapt to the new normal."

He noted: "At the same time, you will see operating expenses growing much faster than net interest income, again reflecting the use of profit and loss account to cushion the customers."

"If you look at the Equity risk-based pricing model, it puts all the interest expense and operating cost to the customer but given the circumstances and situation that we found our customers in, we decided to cushion them to mitigate the adverse effect it would have on their businesses."