In principle, monetary policy easing by the Central Bank of Kenya (CBK) should translate into lower borrowing costs across the economy. When the Monetary Policy Committee signals an accommodative stance, the expectation is that lending rates will adjust downward, supporting credit growth and investment. In practice, however, bank lending rates in Kenya have often remained elevated even when policy conditions suggest otherwise. This disconnect has led to questions about the effectiveness of CBK’s influence on interest rates, but a closer look at the transmission mechanism reveals a more nuanced reality.
CBK’s influence is most visible in the money market. Through liquidity operations and policy signaling, the central bank steers short-term interbank rates. This is captured by the Kenya Shilling Overnight Index Average (KESONIA), which reflects actual unsecured overnight interbank transactions. Movements in KESONIA generally respond promptly to CBK actions, indicating that the central bank is effective in shaping short-term funding conditions. In that sense, monetary policy transmission at the interbank level is largely intact.
The challenge arises beyond this point. Commercial banks do not price loans directly off KESONIA or the Central Bank Rate alone. Instead, lending rates are determined within the framework of the Risk-Based Credit Pricing Model (RBCPM), which CBK itself introduced to promote transparency and risk-sensitive pricing. Under this model, banks incorporate not only funding costs, but also borrower credit risk, capital requirements, operational costs, and targeted returns. As a result, even when KESONIA declines and marginal funding costs ease, lending rates may remain unchanged if other components of the pricing model remain elevated. In Kenya’s context, credit risk has been persistently high, particularly for small and medium-sized enterprises and unsecured borrowers. Weak cash flows, enforcement challenges, and elevated non-performing loans all contribute to wider risk premiums that blunt the impact of policy easing.
Fiscal dynamics further complicate transmission. Heavy government borrowing in the domestic market offers banks attractive, low-risk returns through Treasury securities. This reduces the urgency to reprice private sector credit aggressively, especially when risk-adjusted returns on government paper remain competitive. In such an environment, monetary policy signals face partial crowding out.
Importantly, this outcome does not imply regulatory weakness. CBK has deliberately shifted away from direct price controls toward a market-based framework. Past experience with interest rate caps demonstrated that administrative intervention can suppress credit availability rather than improve affordability. The current framework prioritizes financial stability and transparency, even if it results in slower and asymmetric rate adjustments.
Addressing sticky lending rates therefore requires structural solutions rather than stronger coercion. Improving credit information systems, strengthening insolvency and collateral enforcement, and deepening capital markets would reduce risk premiums over time. Better fiscal monetary coordination would also enhance transmission. Ultimately, the persistence of high lending rates reflects the architecture of Kenya’s financial system more than a failure of CBK authority. The tools work, but their impact is shaped by risk, structure, and incentives beyond the central bank’s direct control.
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