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Kenyan banks sail into uncharted waters with risk-based lending

David Musau by David Musau
April 19, 2024
in News
Reading Time: 1 min read

Kenya’s move to scrap caps on commercial lending rates is bearing fruit three years on, unleashing credit flows to riskier borrowers that had been starved of financing under the previous regime.

Private sector credit grew 13.9 per cent in the year to December, data show, far outpacing the 9.2 per cent five-year average after the central bank ordered lenders to adopt risk-based pricing models.

The directive marked an overhaul of the one-size-fits-all approach to loan pricing that had long shut out higher-risk smaller businesses. The new models require banks to assess borrowers’ likelihood of default individually rather than simply consulting their credit scores.

The reform followed the 2019 repeal of interest rate caps that had aimed to make credit affordable but ended up constraining its supply. After their removal, the central bank moved to prevent a blowout in rates by instructing banks to file risk-based pricing formulas for approval.

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So far 33 of 38 Kenyan banks have had their models cleared, led by Equity Bank which became the first to implement risk-based lending in 2022.

The new system has enabled lenders to extend credit to micro, small and medium-sized enterprises on which the economy heavily relies but which had often been deemed too risky to fund affordably before the changes.

Proponents argue risk-based pricing has made lending more transparent by quantifying the risks associated with each borrower. Critics worry more vulnerable businesses and individuals will be charged punitively high rates.

For policymakers, steering a path between expanding access to credit and controlling runaway rates looms as the next challenge.

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