Recent reports of commercial lenders pressuring the Central Bank of Kenya to approve risk-based loan pricing could be sweet music for shareholders and senior management in the banking industry.
However, the same can signal the start of prohibitive lending regimes in cases where banks consider a customer to be “riskier” based on their finances, collateral submitted, account performance and qualitative factors of the business, among other considerations.
Prior to the interest rate cap, the risk-based cost of lending was largely punitive and sometimes a source of pain for individuals and micro, small and medium-sized enterprises who were widely viewed as “riskier” customers with whom to do business.
With the push to return to risk-based lending, banks are likely to resort to predatory lending to maximize shareholder returns and offer senior executives high performance bonuses. On the other hand, the auctioneers’ hammer will fall on businesses and individuals who are unable to sustain loan repayments.
With the likely continuation of central bank interest rate hikes given rising levels of inflation, a strengthening greenback against the Kenyan shilling, growing geopolitical risks with warring Russia and Ukraine and the he government’s activity in the domestic borrowing market due to the growing budget deficit, it is imminent that risk-based lending could allow banks to constantly revise their rates upwards at the slightest movement in the key variables detecting the pricing of loans .
Affordable loan pricing remains key to accelerating economic output and growth. With the ever-increasing cost of doing business, financing costs and reimbursements, if left unchecked, can easily lead to payment defaults, business closures, loss of assets and entrepreneurial efforts. .
Post-Covid-19 banking sector performance foresees a stable and resilient banking sector with a post-pandemic economic rebound coupled with earnings growth. A review of the CBK’s annual report for 2021 indicates that the total net assets of the banking sector increased by 11.4%, from 5.4 trillion shillings in December 2020 to 6 trillion shillings in December 2021, the growth being supported by the increase in loans and advances.
The sector’s pre-tax profit increased by 75.8% from Sh112.1 billion in December 2020 to Sh197.0 billion in December 2021. December 2021.
The liquidity ratio stood at 56.2% in December 2021, higher than the liquidity ratio in December 2020 of 54.5%. The non-performing loans ratio decreased from 14.5% in December 2020 to 14.1% in December 2021.
Given the performance and increasing profits of the banking sector, the push towards risk-based lending may be driven by high liquidity banks holding above the legal minimum. A further dissection of banking sector performance reveals that large banks control 86.9% of total pre-tax banking profits, with medium and small banks controlling a meager 13.1%.
KCB Bank, Equity Bank and Cooperative Bank lobbied hard to get CBK’s approval to allow risk-based lending based on the lending formulas offered. The same banks control the largest share of pre-tax profits along with the other six banks.
While risk-based lending can allow banks to lend to “riskier” borrowers, there is a need to ensure that the loan pricing regime remains certain. Uncertainty in loan pricing only means expensive loans that can give banks super normal profits at the expense of rewarding entrepreneurial efforts and pursuing economic growth as a country.