What are the likely outcomes of capped bank interest rates on the job market?
The Kenyan Banking Amendment Bill, 2015 was signed into law by the president on 24th August 2016. This act effectively reduced interest rates by capping them at 4% above CBK’s benchmark rate, among other issues in the bill. Of particular interest to banks, are the interest rates which are a major source of income for them. However, capped interest rates on bank loans are likely to bring major benefits in the employment sector as employers, employees and job seekers will be affected.
Although the practice of capping interest rates has been on the decline as governments liberalize their financial markets, some countries continue to use this measure to protect consumers, reduce poverty rates and promote growth. According to a report by the World Bank, there was a total of 76 countries with a cap on interest rates across the world as of 2014. The main aim, in all the countries, is to protect consumers and allow consumers to have greater access to finance. Some of the countries with different caps on bank interest rates are Japan, Zambia, The United States, Spain and El Salvador just to mention a few.
So, what are the likely outcomes for the 3 main stakeholders in the job market?
Companies employ human resources to run operations and generate revenue. Company operations are labour and capital intensive and these require huge amounts of revenue to sustain.
Many employers, in both the goods and service industries, get revenue to fund their operations from revenue generated and by taking bank loans. For many years, employers have complained that the high-interest rates cripple their operations as they eat into their revenues and slow down operations.
Additionally, companies take loans to finance transactions such as LPOs, when they do not have cash to facilitate these operations. They also take loans for expansion, which is often curtailed by high-interest rates. Bear in mind that loans are taken against certain aspects such as assets and in the case of unsecured loans, banks lend based on the company’s revenue generation, pegged on the past and future projections. High-interest rates slow down growth as companies take just enough to facilitate minimal growth.
As bank rates fall, following the implementation of the law, companies, particularly SMEs, such as the case of the United States, are likely to have access to cheaper credit which will essentially help them to fast track their growth strategies and operations. As they grow, they will require more human resources and this will expand their uptake of job seekers.
As companies grow, employees will also have more responsibilities which will increase their value and give them the ability to negotiate for better pay. Additionally, as consumer purchasing power improves, revenue generation grows and this will help employees bargain for better pay and remuneration.
Job seekers will perhaps be the biggest beneficiaries of the reduced bank loan rates. This is because access to credit has often made it hard for companies to expand and accommodate more employees and for those who want to get into business to do so affordably.
As we have stated, companies were also suffering from the high-interest rates imposed on them by banks. This has curtailed their growth and expansion strategies, which limit the amount of human resources needed by the companies. This has shrank employment opportunities and contributed to high unemployment rates in the country.
However, with the implementation of the Banking Amendment Act, 2015, things are likely to change. With employers accessing cheaper credit, companies are likely to expand their operations and this will lead to a rise in demand for human resources. This is a good thing to job seekers who will now have access to more employment opportunities.
Additionally, those seeking to get into entrepreneurship will no longer have their ambitions frustrated by the lack of capital or funds for expansion. The lines of credit have been limited to many entrepreneurs who have faced problems with regard to access to credit. As interest rates on loans come down, many job seekers will now have access to affordable loans to help them start and grow their businesses.
As an advantage, lower interest rates also mean low monthly repayment schedules which will allow entrepreneurs to pay their loans affordably, save money for growth and have more money which they can plough back into their companies. All these will help job seekers consider entrepreneurship, a line that will create jobs for them and others.
Effects of capped interest rates on bank loans in other markets
Although there are many countries that continue to have some form of caps on interest rates, studies show that there are many outcomes, both negative and positive, from this practice. As discussed, the intentions may be good and stand to benefit employers, employees, and job seekers but there is no guarantee to this. Here are likely outcomes based on markets with existing caps on interest rates:
1. Withdrawal of credit to low income earners
In Japan, France and Germany, caps on interest rates saw financial institutions avoid lending to high-risk borrowers such as people in low-income areas. This in effect reversed the main aim of helping more people have access to credit. It also opened the door for informal lending avenues which in most cases exploit consumers. This is likely to affect job seekers, who would wish to get into business, as they are considered high-risk borrowers due to their limited sources of income.
In some cases, banks and financial institutions withdrew from low-income areas and this further curtailed access to credit facilities. The main argument was that the interest rates became too low and this made operations in low-income areas unsustainable. Banks and other financial institutions also avoided investing in areas considered unprofitable.
2. More commissions and fees on loans
In some countries, financial institutions have beaten the caps on interest rates by adding fees and commissions on loan facilities which increase the cost of the loan and reverse the intended gains. This was the case in Armenia, where the law was unclear on how the rates were to be calculated. It also reduced transparency and made the loans just as expensive as they were before the caps were introduced. This can affect employers whose loans would still be expensive and thus, curtail their growth.
In some cases, banks asked for higher collateral against loan facilities, which reduced access to loan facilities due to lack of enough collateral by borrowers.
3. Reduced number of credit products
There are many forms of loans in the market. The aim is to diversify credit facilities for different sectors of the economy and customize them to fit the intended users. However, as was the case for Germany and France, caps on interest rates may lead to a decline in the number of credit products available to consumers. This limits access to credit and innovation.
Although it is still early to tell how the cap on bank interest rates will affect the Kenyan consumer, empirical evidence as indicated shows that in most cases, the outcomes are negative. This may or may not be the case for Kenya. As much as employers and job seekers are likely to benefit from the lower interest rates, we cannot tell for a fact what the outcome will be.