The repeal of interest rate caps has restored the Central Bank of Kenya’s control over monetary policy, ending nearly three years of a lame duck regulator.
Kenya this week abolished control on the cost of loans after Parliament failed to raise the required two-thirds majority or 233 lawmakers to overturn President Uhuru Kenyatta’s memorandum on the removal of a controlled interest rate regime, paving the way for the Central Bank to apply its policy rate in controlling inflation, money supply and the exchange rate.
The regulator uses the Central Bank Rate (CBR) as a key tool for signalling its monetary policy direction, ordinarily lowering the CBR to increase liquidity in the economy and raising it to tame inflation or strengthen the exchange rate.
The inclusion of CBR in the formula for determining cost of loans, however, left CBK hamstrung, blunting its ability to alter cost of loans without hurting the wider economy through change in the price of credit.
The Central Bank of Kenya (CBK) had publicly stated that the rate caps had rendered its monetary policy tools ineffective, making it difficult to control inflation and the amount of money in circulation.
The World Bank had also stated that interest rate caps undermined monetary policy transmission and implementation, with implications for CBK’s independence and its ability to steer the economy.
"With caps linked to the CBR (policy rate), changes in the policy rates could be counterproductive. Furthermore, pegging the interest rate cap to the CBR has fundamentally affected the effectiveness of monetary policy, and the signalling and relevance of the CBR," said WB.
The law on interest rates came into force in September 2016, capping lending rates at four percentage points above the prevailing Central Bank Rate.
The repeal is a big win for commercial banks, the CBK and international financial institutions such as the IMF and the World Bank which have all been pushing for the removal of rates caps arguing that the law had failed to achieve its purpose of freeing affordable credit to the private sector.
Nairobi Securities Exchange listed commercial banks recorded a sharp increase in their share prices when it became clear that the law would be changed, gaining Ksh38 billion ($368 million) market value in one day.
Assuaging fears The stock rally, however, lost steam towards end of the week, with more than half of the 11 listed banks recoding price declines on Thursday, November 7, when President Uhuru Kenyatta signed into […]
