The World Bank has cautioned the Kenyan government over persistent crowding out of the private sector from the local debt market due to heavy borrowing.
The multilateral lender notes that commercial banks have not reached their optimal support for investments as the Treasury continues to compete with households and enterprises for credit from banks.
The warning is in spite of a rebound in private sector credit growth over the past year with the growth being supported largely by the end of interest controls and the renewed appetite by banks for higher risk-adjusted returns.
“Credit is growing more slowly than GDP, highlighting that the banks' role in facilitating investments and economic activity remains challenged. Banking sector credit to the private sector peaked in 2015,” the World Bank noted in a recent report.
“This shift in the dynamic took place against a background of elevated demand by the government for domestic financing of the budget deficit, coupled with the cap on interest rates that was in place between 2016 and 2018.”
The National Treasury has been forced to rely on the domestic credit market to finance the budget deficit as it is squeezed in part by roadblocks in accessing the international capital markets.
For instance, to meet the funding gap in the just concluded 2023/24 financing year, the Treasury raised the target for net domestic financing by Sh50 billion to Sh475 billion.
In the new financial year from July 1, the Treasury expects the Sh718 billion fiscal deficit to be financed through the next external financing of Sh131.5 billion and net domestic financing of Sh586.5 billion.
Despite the fiscal dominance in the domestic credit market, credit flows to the private sector have marked some resilience and jumped back into a double-digit growth rate in March last year, for the first time since the placing of interest curbs and has remained at similar levels in the aftermath.
According to data from the Central Bank of Kenya (CBK), growth in private-sector credit stood at 13.2 percent in both April and May.
Strong credit growth has been observed in the sectors of manufacturing, transport and communication, trade and consumer durables at 19.3, 22, 15.4 and 11.9 percent respectively.
“The number of loan applications and approvals remained strong, reflecting increased demand and resilient economic activities,” the CBK noted.
Besides competition for credit from the government, private sector credit faces other notable headwinds going into the second half of the year, including rising interest rates and deteriorating asset quality in banks from higher loan defaults.
The rising interest rates for commercial bank loans are based on a higher CBK benchmark lending rate which rose to 10.5 percent at the end of June from 9.5 percent previously.
Additionally, the implementation of risk-based credit pricing by banks is expected to result in costlier loans for borrowers with a higher risk profile.
Meanwhile, the resurgence of non-performing loans which represent 14.9 percent of all gross loans at the end of May, has been traced to the accumulation of pending bills by the government with the bulk owed to suppliers.
Increases in non-performing loans have been noted in manufacturing, trade, real estate, transport and communication.