Why in­ter­est rate cap was bound to fail

Business Daily (Kenya) - - EDITORIAL & OPINION - JAINDI KISERO jaindikisero@gmail.com

The in­ter­est rate con­trol regime has not worked be­cause we were try­ing to treat a chronic mal­ady by ap­ply­ing a

pal­lia­tive.

It does not-there­fore- sur­prise me that the Gover­nor of the Cen­tral Bank of Kenya (CBK), Dr Pa­trick Njoroge, says that he in­tends to push for the re­peal of the rate­cap­ping law.

Speak­ing on Wed­nes­day, Dr Njoroge re­vealed that a gov­ern­ment study had demon­strated that the rate caps had im­pacted badly on eco­nomic growth. I can’t wait to read the con­tents of this new study.

I hope that its terms of ref­er­ence were not re­stricted merely to pro­vid­ing jus­ti­fi­ca­tion to the Trea­sury and the Cen­tral Bank of Kenya to start cam­paign­ing for abo­li­tion of in­ter­est rate caps.

We must not for­get this whole idea of in­tro­duc­ing rate caps came about be­cause we were try­ing to tackle a pri­mary prob­lem -name­ly­high in­ter­est rates spreads in the coun­try.

We must ex­pect a com­pre­hen­sive di­ag­no­sis of the prob­lem of high in­ter­est rate spreads, in­clud­ing pre­scrip­tions for cur­ing the mal­ady from this study. If it falls short of giv­ing us al­ter­na­tives to rate caps, we will dis­miss it as worth­less and po­lit­i­cally mo­ti­vated.

We must ad­dress the gov­ern­ment’ s large ap­petite for cash and how to we can bring down both the level and quan­tum of gov­ern­ment bor­row­ing. The size of the bud­get deficit must be brought down to the lev­els com­pa­ra­ble with well­run emerg­ing mar­ket economies of our size.

Be­fore the caps are dropped, let the gover­nor give us a clear road map on what he is go­ing to do to ad­dress the struc­tural weak­nesses and in­ef­fi­cien­cies in our bank­ing sys­tem that are the main con­trib­u­tory fac­tors to the prob­lem of high in­ter­est rate spreads.

What hap­pened to the idea of in­tro­duc­ing hor­i­zon­tal re­pos? We don’t have a well-func­tion­ing in­ter­bank mar­ket ca­pa­ble of spread­ing liq­uid­ity evenly, both ver­ti­cally and hor­i­zon­tally.

Our in­ter-bank mar­ket is dys­func­tional be­cause big banks do not make credit lines to small banks. Cur­rently, smaller banks are per­ma­nently at the Cen­tral Bank’s re­dis­count win­dow to ac­cess ex­pen­sive liq­uid­ity.

Yet when you go to the win­dow fre­quently, your peers start treat­ing you like a pariah.

What hap­pened to the idea of in­tro­duc­ing pri­mary deal­ers on gov­ern­ment pa­per? The mar­ket for gov­ern­ment pa­per badly needs re­form.

Ex­pe­ri­ence has shown that when you have pri­mary deal­ers, the gov­ern­ment gets the best lever for trans­mit­ting pol­icy di­rec­tion on in­ter­est rates. Even Uganda has a sys­tem of pri­mary deal­ers.

The rea­son the gov­ern­ment some­times bor­rowed ex­pen­sively from the mar­ket is be­cause com­mer­cial banks have over the years more or less cap­tured this mar­ket for gov­ern­ment se­cu­ri­ties, al­low­ing them to dic­tate terms.

In­deed, the idea of in­tro­duc­ing pri­mary mar­ket deal­ers was among the key pro­pos­als of the blue rib­bon pres­i­den­tial task force on paras­tatal re­forms, whose rec­om­men­da­tions the President ac­cepted in June 2014.

I also don’t know what be­came of the pro­posal to take away the man­age­ment of is­suance and re­demp­tion of gov­ern­ment debts from the CBK.

The list of re­forms needed to in­tro­duce efficiency in the bank­ing sec­tor is long in­deed. When you look at trends in the rest of the world, coun­tries are now es­tab­lish­ing in­de­pen­dent and ded­i­cated trea­sury man­age­ment agen­cies man­dated to min­imise the long-term cost of gov­ern­ment debt.

The pri­or­ity of priorities is con­sol­i­da­tion. We need fewer, larger and bet­ter-cap­i­talised banks able to com­pete more ef­fec­tively with each other in a man­ner that drives down in­ter­est rates.

Do in­ter­est rate caps have rel­e­vance in our con­text? Maybe. But only if the pur­pose is con­sumer pro­tec­tion. Even in the US, there are state by state usury laws that in­clude caps on con­sumer loans.

In South Africa, small bor­row­ers are pro­tected by in­ter­est rate caps reg­u­lated by a con­sumer pro­tec­tion body- the Na­tional Credit Agency.

In our case, the caps regime was not in­tro­duced with the ob­jec­tive of pro­tect­ing the or­di­nary bor­rower from loan sharks, It serves the in­ter­est of the rich.

The caps regime was not in­tro­duced with the ob­jec­tive of pro­tect­ing the or­di­nary bor­rower from loan sharks

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