Banking policies shouldn’t create new challenges

Various policy guidelines instituted over the past five years, particularly in the financial sector, continue to underscore the need for a meticulous assessment of both short-term and long-term implications of interventions before they are implemented.

The thrust of this argument is that while a policy measure may be well-intentioned and genuinely informed by necessity, one-sided considerations can end up ultimately exacerbating the very problems the interventions sought to address. 

The Kenyan financial sector offers an apt environment with which to examine the impact of these inconsistent, and perhaps contradictory, policies. The importance of the sector in the economy cannot be gainsaid.

It, however, remains low in comparison with its comparator economies. For instance, Kenya’s domestic credit to private sector is low at 32.7 per cent, compared to countries like China at 182.4, South Africa at 107.9 and India 54.8 per cent. 

More financial deepening can be accelerated by a predictable and stable policy environment. In recent years, various policies have shown the impact of policies on the financial sector.

Money laundering

In 2021, for instance, the Central Bank of Kenya barred Credit Reference Bureaus from listing credit defaults below Sh5 million following a government directive intended to facilitate continued access to credit to enterprises and individuals hurt by the Covid crisis.

Without a credit history, the individuals and entities faced an even more limited possibility to access credit due to information asymmetry, which usually leads to credit rationing in favour of borrowers with a credit background. 

Though well-intended, the policy overlooked the fact, the Credit Information Sharing mechanism plays an integral role and is critical for credit appraisal. As such, it is easier for a bank to extend a facility to an individual or entity with a default history than to one whose credit information is completely unknown.

Similarly, money laundering and terrorism financing are serious problems that must be addressed. Thus, the lowering of the threshold of transactions banks are required to report under anti-money laundering laws was another policy whose long-term effect is bound to be counterproductive.

While its intention is to facilitate cash transactions among small enterprises, it will inevitably cause the country to be viewed as a porous jurisdiction on Anti-Money Laundering and Combating the Financing of Terrorism (AML/CFT). The overall effect will be reduced direct foreign investment appetite, whose impact will affect SMEs.

Interest rate controls

Relatedly, lawyers are currently not reporting entities under the AML/EFT framework. This policy exemption is inconsistent with global best practice. It creates a loophole for money laundering within the financial system, given that a chain is as strong as its weakest link.

The proposed inclusion of lawyers as reporting entities under the Proceeds of Crime and Anti-Money Laundering Bill, 2021, is a welcome move as it will promote compliance to regulations and prop the war on money laundering.

The 2016 amendment to Banking Act that set the stage for interest rate controls also resulted in unintended consequences in the credit market. While the intention was to facilitate credit access by SMEs, it ironically priced over one million previously active borrowers out of the credit market.

The introduction of interest rate controls overlooked the fact that closing the leeway for banks to price credit in line with borrowers’ risk profile was going to lock out segments perceived as risky out of credit. 

By the time of its repeal in 2019, the loan price controls had neither improved access to credit nor reversed the decline in credit to the private sector growth.

Dr Olaka is the Kenya Bankers Association CEO