About the Kenya Banks’ Reference Rate (KBRR)

About the Kenya Banks’ Reference Rate (KBRR)

The Central Bank of Kenya (CBK) has announced the first Kenya Banks’ Reference Rate (KBRR). The new reference rate replaces the Base Lending Rate, which commercial banks used to price their products. The rate is computed by CBK based on an average of the Central Bank Rate (CBR) and a 2-month moving average of the 91-Day Treasury Bill Rate.

Following the 8^th July 2014 Monetary Policy Committee meeting during which the CBR was held at 8.50 percent, the initial KBRR has been set at 9.13 percent. The effective date is 8^th July.Therefore all new loans issued by commercial banks should be priced on the 9.13 percent KBRR.

The KBRR is announced by CBK through Monetary Policy Committee Press Release and operationalised via CBK Banking Circular. It is expected that the announcements will be made by CBK every 6 months (or more frequently depending on market conditions). 

FREQUENTLY ASKED QUESTIONS

What is the KBRR and how is it different from the Annual Percentage Rate (APR)?

Previously, banks used to price their loans using a Base Rate. The formula for calculating the Base Rate varied from bank to bank. Central Bank of Kenya has now prescribed a common Reference Rate known as the Kenya Banks Reference Rate or KBRR.

KBRR factors in CBK's monetary policy direction (based on the Central Bank Rate) and the risk free rate in the market, which is the 91-Day Treasury Bill rate. 

For further pricing transparency, members of the Kenya Bankers Association in 2012 voluntarily adopted the Annual Percentage Rate or APR pricing model. APR is the numerical representation of the Total Cost of Credit. The APR implementation was undertaken in 2013 with the effective date taking place on 1st July 2014.

What is the Total Cost of Credit?

The “Total Cost of Credit” or TCC will include the bank interest rate based on the KBRR plus a premium (or the “k”) that covers the banks’ Cost of Funds, Margin and Risk. Third Party Costs directly associated with the loan are also covered in the TCC, these include legal fees, insurance, valuation, and government levies. The TCC, including estimates for third party costs, should be provided to all loan applicants prior to contract signing. 

Why is APR the Most Transparent Cost of Credit Disclosure?

Because banks will use the TCC model developed by Kenya Bankers Association (KBR) to calculate the APR, borrowers are empowered to compare loan products on a like for like basis; and therefore make more informed decisions on all the components of the loan (interest rate plus all charges and third party costs). 

What is APR and will it make loans cheaper?

There are various costs associated with a loan. To better determine the total cost, a prescribed formula should be used to compute the various elements into a numeric representation (a percentage number). When this percentage number is factored over a 12 month period, it is called the Annual Percentage Rate (APR). 

In most countries APR is mandated by law. But in Kenya, the banking industry has proactively adopted the APR model in conjunction with the CBK’s requirement that banks provide customers with the Total Cost of Credit (TCC) and Loan Repayment Schedule. 

While the APR and TCC disclosures do not directly have an effect on the cost of credit, customers will be empowered to shop around for the loan products that meet their needs. The enhanced transparency will also stimulate competition within the banking industry thus contributing to more competitive interest rates for customers with a good credit track record. 

Which other initiatives are banks working on to address high interest rates?

The banking industry in collaboration with Central Bank is spearheading a number of interventions to enhance credit access. These initiatives, which are at different stages of implementation, include: the Credit Information Sharing initiative which will enable banks to price their loan products based on individual customers’ risk profile; and development of a Reference Rate upon which banks will replace the Base Rate and serve as a standardized reference rate for all banks. 

Through the Cost of Credit Committee Chaired by National Treasury, KBA has also proposed several other measures meant to address the inefficiencies that contribute to higher costs within the financial services industry, including reforms within the Lands and Companies Registries.

It is important to note that the high interest rate regime is not permanent; once market stability is attained, rates trend downwards, as we have seen in the recent past. A good signal that the market is indeed responding to the decline in interest rates is the increased uptake in credit during 2013 and First Quarter 2014 (as reported by the Central Bank).

Courtesy of Kenya Bankers Association