Kenya: Central Bank Cuts Overnight Rate,Tightens Lending Rules

The Central Bank yesterday dropped its overnight lending rate to 6.25 percent from 8per cent but tightened borrowing conditions from the discount window to curb misuse by banks.



In a circular, the regulator accused commercial banks of using the window as their permanent source of cash contrary to its intended purpose of being a last resort.

Central banks run discount windows as facilities of last resort as a means of providing temporary liquidity to banks in extreme cases. "Since the issue of Banking Circular no. 5 of 2011, which introduced the overnight penalty rate currently at 8 per cent, the CBK has noted that the rate is being used as a base for setting the interbank rate and has resulted to distortions to the money market," Jackson Kitili, director of banking services, national payments systems and risk said in the statement.

As a control measure, any bank lending in the interbank market will no longer be allowed to access funds through the discount window on the same day. The regulator has also restricted the amount that a bank can borrow in one week to a maximum of its staturoy cash reserves. "Given that the quantities to be borrowed through the CBK discount window have been restricted, the interest rate applicable will revert to the CBR of 6.25 per cent," Said Kitili in a statement sent to Kenya bankers association and Commercial bank CEO.

The move comes barely two weeks since CBK introduced the new discount rate for the overnight window to be used for emergencies,this was to be set on a daily basis in order to curb speculation by banks. It was initially set at 8 per cent on June 29 but remained remained unchanged until yesterday.

The regulator told banks to consider other avenues to raise cash before going to the CBK discount window. "In this regard, they should consider liquidating their portfolios of treasury bills, treasury bonds or foreign currency positions among others, prior to resorting to the discount window," said the circular.

Market analyst, Aly Khan Satchu, said the shilling was initially weakened by the news of the new interest rate. On Tuesday morning, he said, it traded at 90.75, which was the highest during the day, before returning to 90.25 in the afternoon, close to Monday's market close of 90.35.

According to Reuters, other traders in Nairobi also reported a similar trend saying they were still monitoring the effect of the cut on the forex market. "When CBK raised the discount rate, the shilling was at its weakest point , the higher rate has helped strengthen the shilling a bit in the last weeks, probably why CBK has now decided to take it back to a more realistic level," said Satchu.