In 1974, economist Mohammed Yunus established Grameen Bank in Bangladesh to provide small loans to individuals especially to poor women who couldn’t get commercial loans and foster entrepreneurism among the poor. The payback rates were high, sometimes an average of around 98%, and the interest revenue created by these loans recirculated in larger circles of lending. Years later, out of this lending model that Yunus and his colleagues at Grameen Bank originally referred to as Micro-Credit lending emerged today’s Micro-Finance lending financialised and reconceptualised by big banks to replicate its success in many parts of the world.
Since they are profit-oriented businesses, banks still ran collateralised lending and the borrowers without collateral having their loans expensively priced unlike Grameen Bank which wasn’t a profit operation, making access to credit to unlock capital a big concern. Out of this necessity, government have been establishing credit guarantee schemes that underwrite those risks on commercial banks loan books.
Now in the recent economic stimulus package unveiled by the President, Kenya plans to roll out an SME credit guarantee scheme as one of the economic interventions in addressing the Covid-19 impact. Credit guarantee schemes always look watertight intervention with a huge impact to disrupt the credit market, but its history is littered with litany of failed schemes across the world more than successful ones. Therefore, Kenya needs to thoroughly investigate the failed schemes for it to establish an effective guarantee system.
To start with, this can’t be said to be an immediate recovery policy intervention but a medium-term policy intervention, because setting it up and running will take time and businesses continue to be wiped out by Covid-19. CBK has noted that 75 percent of SME are in critical position and will be gone by June if there is no immediate intervention
Second is sustainability of the scheme. Kenya is heavily borrowing from India, where the scheme is under the Ministry of Micro, Small and Medium Enterprises and the Small Industries Development Bank of India who run the credit guarantee scheme through the Credit Guarantee Fund trust. Kenya plans to set up a development bank like the SIDBI of India, the Kenya Development Bank by merging the Industrial and Commercial Development Corporations, Tourism Finance Corporation and IDB Capital Limited into one entity, through a bill that is at public participation stage.
In India’s case, the Government and SIBI contribute to the fund in a ratio of 4:1, that is 80 percent. In Kenya, the Kenya Development Bank bill reads that the capital of the bank will be Sh100billion whilst governmentt has allocated Sh3 billion for the scheme. The reason why governments take the major burden of risk by being the biggest contributor is because credit guarantee schemes are a macro intervention to stimulate a robust business environment. With the development bank being the bigger contributor, it already portends insolvency because the guarantee of these loans are always more than 70 percent,
Third, the crux of this credit guarantee system is about the model it will run on. The two common ones are risk-sharing model – determining how risk will be shared between the lending institutions and credit guarantee organisation, and Guarantee fees where payment of a premium for the guarantee. Kenya angles towards the risk-sharing model that has a moral hazard, since lending institutions have little to lose, they tend to refer many risky loans for guarantee and the schemes run into headwinds.
Last, ideally, a potential borrower who can’t secure a loan at a commercial bank is referred to the credit guarantee organization who will investigate his creditworthiness or business proposal. If found to be viable, the organisation guarantees the borrower who then returns to the bank with a guarantee certification to access a bank loan.
Therefore, running a very professional credit guarantee organisation is fundamental, who conduct diligent and honest appraisal of creditworthiness of borrowers will be the pillar of the guarantee system. Unfortunately, our record on running public institutions is out there.
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