Big banks squeeze small rivals out of credit

• The research, commissioned by the Kenya Bankers Association (KBA), showed tier-three banks keep relatively large amounts of hard cash as they fear risking it in transactions such as the money or foreign exchange markets where it could be lost, leaving them without liquidity.
• The cash buffer is to ensure that they avoid borrowing either from other banks or from the Central Bank of Kenya (CBK) at punitive rates through the discount window when they run short of liquidity.
• Things are made worse by the fact that the CBK introduced a rule last year that any institution borrowing more than twice a week at the overnight window would attract an audit. The rule has made the banks become even more conscious of the need to hold cash.
• While small banks adopt a defensive approach to the money markets by taking no risks, the big banks take an aggressive approach, lending and borrowing from the interbank local currency and foreign exchange markets.
• The study titled Efficiency and Segmentation of the Interbank Market in Kenya was done by three economists; Moses Sichei of the Commission of the Revenue Allocation, Chris Ochieng of KIPRRA and Sammy Tiriongo of the CBK.

Small banks are foregoing profit opportunities by keeping billions in idle cash instead of diversifying away from interest-based income, a new study shows.

The research, commissioned by the Kenya Bankers Association (KBA), showed tier-three banks keep relatively large amounts of hard cash as they fear risking it in transactions such as the money or foreign exchange markets where it could be lost, leaving them without liquidity.

The cash buffer is to ensure that they avoid borrowing either from other banks or from the Central Bank of Kenya (CBK) at punitive rates through the discount window when they run short of liquidity.

Things are made worse by the fact that the CBK introduced a rule last year that any institution borrowing more than twice a week at the overnight window would attract an audit. The rule has made the banks become even more conscious of the need to hold cash.

While small banks adopt a defensive approach to the money markets by taking no risks, the big banks take an aggressive approach, lending and borrowing from the interbank local currency and foreign exchange markets.

The study titled Efficiency and Segmentation of the Interbank Market in Kenya was done by three economists; Moses Sichei of the Commission of the Revenue Allocation, Chris Ochieng of KIPRRA and Sammy Tiriongo of the CBK.

The treasury departments of the big banks are always busy making deals and trying to raise their non-interest income.

“The big banks distrust the small ones due to counterparty risk," said Mr Sichei while making the presentation during a banking conference at the Hilton Hotel earlier in the week.

Fear that small banks are risky is derived from the fact that a number of institutions have collapsed over the years in unexpected manner.

The CBK normally closes a bank without notice to prevent a run such that pending payments like overnight facilities from another bank are not paid immediately.

“Banks are always checking each other and will only open credit lines for those they are sure about,” said Mr Sichei who formerly worked with KCB Group and the CBK.

He said the Central Bank Rate, used as the policy gauge by the CBK, ends up being irrelevant to the small banks because their huge piles of cash ensure they do not turn to the regulator for liquidity.

“In normal times, the interbank market serves institutions well but when rates change upwards, small banks pay more in the interbank market as they are perceived to be more risky,” said Dr Sichei.

Apollo Ong’ara, a manager at Family Bank, wanted the research to indicate whether there had been any default in the interbank transactions in the past five years as a demonstration of the counterparty risk.

He said indications were that no such loss had occurred in the banks in operation.