Nipate
Forum => Kenya Discussion => Topic started by: veritas on September 01, 2016, 06:46:32 PM
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From an economic perspective, input based solutions like interest rate caps or subsidies distort the market
and hence it would better to let the market determine the interest rate, and to support certain desirable
sectors through other means (such as output based aid. Indeed there are a number of other methods
available that can contribute to a reduction in interest rates.
In the short term, soft pressure can be an effective tool – as banks and MFIs need licenses to operate,
they are often receptive to influence from the central bank or regulatory authority. However to truly bring
down interest rates sustainably, governments need to build a business and regulatory environment and
support structures that encourage the supply of financial services at lower cost and hence push the supply
curve to the right. (p. 10)
https://assets.publishing.service.gov.uk/media/57a08a0de5274a31e00003d0/Interest_rate_caps_and_their_impact_on_financial_inclusion.pdf
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There are situations when an interest rate cap may be a good policy decision for governments. Where
insufficient credit is being provided to a particular industry that is of strategic importance to the economy,
interest rate caps can be a short term solution. While often used for political rather than economic
purposes, they can help to kick start a sector or incubate it from market forces for a period of time until it
is commercially sustainable without government support. They can also promote fairness – as long as a
cap is set at a high enough level to allow for profitable lending for efficient financial institutions to SMEs, it
can protect consumers from usury without significantly impacting outreach. Additionally, financial outreach
is not an end in itself and greater economic and social impact might result from cheaper credit in certain
sectors rather than greater outreach. Where lenders are known to be very profitable then it might be
possible to force them to lend at lower rates in the knowledge that the costs can be absorbed into their
profit margins. Caps on interest rates also protect against usurious lending practices and can be used to
guard against the exploitation of vulnerable members of society.
However, although there are undoubtedly market failures in credit markets, and government does have a
role in managing these market failures (and indeed supporting certain sectors), interest rate caps are
ultimately an inefficient way of reaching the goal of lower long term interest rates. This is because they
address the symptom, not the cause of financial market failures. In order to bring down rates sustainably,
it is likely that governments will need to act more systemically, addressing issues in market information
and market structure and on the demand side and ultimately supporting a deeper level of financial sector
reform. (p. 12)
https://assets.publishing.service.gov.uk/media/57a08a0de5274a31e00003d0/Interest_rate_caps_and_their_impact_on_financial_inclusion.pdf