Tightened cash supply in the banking system has triggered a fresh sharp increase in the cost of lending between banks, data by the Central Bank of Kenya (CBK) shows, raising the possibility of a surge in the prices of loans.
The inter-bank rate has shot up to the highest levels since October 4, 2021, when it stood at 6.69 per cent.The rate shot up to 6.68 per cent on December 23, 2022, before easing to 6.42 per cent on December 28, 2022—both levels being the highest in more than a year.
On December 28, 2022, the inter-bank money market registered 35 deals totalling Sh12.68 billion—signifying the cash pressure in the banking sector. On this day there was a single deal worth Sh2 billion.
On December 23, 2022, there were 34 transactions in the inter-bank money market totalling Sh14 billion.The interbank rate is the rate of interest charged on short-term loans between banks. Banks borrow and lend money in the interbank lending market to manage liquidity and satisfy regulations such as reserve requirements.
Banks are required to hold an adequate amount of liquid assets, such as cash, to manage any potential bank runs by clients. If a bank cannot meet these liquidity requirements, it will need to borrow money in the interbank market to cover the shortfall.
Excess liquid assets
Some banks, on the other hand, have excess liquid assets above and beyond the liquidity requirements. These banks will lend money in the interbank market, receiving interest on the assets.
The interest rate charged depends on the availability of money in the market, on prevailing rates, and on the specific terms of the contract, such as term length. Interbank borrowing does not require collateral security and is based on a bank’s assessment of the risk of lending to its peers.
The freshly rising inter-bank rate is also closing in on the Central Bank Rate (CBR) which it now only trails by 2.33 percentage points having been set at 8.75 per cent on November 23, 2022, in the March Monetary Policy Committee (MPC) meeting.
The CBR may rise further during the next MPC meeting scheduled for January 30, 2023, amid a push by key economic and development partners such as the International Monetary Fund (IMF) for more raises of the rate to tame inflationary pressure.
The MPC, which is the CBK’s top decision-making organ on fiscal policy, in November raised the base lending rate for the second time in a row to discourage borrowing and thus tighten spending.
It raised the CBR by 50 basis points to 8.75 per cent up from 8.25 per cent. It was the first consecutive increase in the base lending rate this year after the CBK raised the rate in September to 8.25 per cent up from 7.5 per cent.
CBK Governor Patrick Njoroge attributed the decision to sustained inflation amid continued global risks that could unleash further negative impacts on the local economy.
“The Committee noted the sustained inflationary pressures, the elevated global risks, and their potential impact on the domestic economy and concluded that there was scope for a further tightening of the monetary policy in order to anchor inflation expectations,” he said.
And now the IMF wants the CBR raised further to curb inflation and help deal with the effects of foreign currency shocks.
“The Central Bank of Kenya’s (CBK) monetary policy stance is welcome. Further tightening would limit second-round effects and keep inflationary expectations well-anchored while supporting external adjustment” the IMF said in a statement two weeks ago.
Forex interventions
“The exchange rate should function as a shock absorber, supported by a well-functioning interbank FX market, with forex interventions (sales) limited to addressing excessive volatility. Continued monitoring of the banking system is also important” it added.
A further tightening of the CBR could hit borrowers as more banks began adjusting their lending rates following the November raise.One lender, NCBA Bank has already notified its customers of the higher interest rates that will take effect on January 6 next year.
The bank has raised the base lending rate for its Kenya shilling-denominated loans to 11 per cent from 10 per cent and its dollar-denominated loans to 10 per cent from 9 per cent.
“Dear customer, this is to notify you of a change in our shilling and US dollar base lending rates from 10 per cent to 11 per cent per annum and 9 per cent to 10 per cent per annum respectively effective January 6, 2023,” said NCBA.
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