Njuguna Ndung'u: Recent economic developments and policy direction
for the banking sector
Keynote address of Prof Njuguna Ndung'u, Governor of the Central Bank of Kenya, at the
Kenya Institute of Bankers Annual Dinner, Nairobi, 23 November 2007.
* * *
Chairman, Kenya Institute of Bankers
Distinguished Members of the Council
Management and Members of the Kenya Institute of Bankers
Distinguished Guests
Ladies and Gentlemen
It is my great pleasure to be with you this evening at this auspicious occasion which
celebrates an important annual event for the Kenyan Banking Fraternity. I therefore thank the
officials of Kenya Institute of Bankers for inviting me to this annual dinner and for according
me the privilege of addressing this distinguished audience.
This Annual event gives us a unique opportunity to meet, share experiences, reflect on the
achievements we have made in the banking sector during the year, the missed opportunities
and the challenges we face going forward.
At the outset, Ladies and Gentlemen, I would like to recognize the important role that KIB
has played in capacity building within Kenya's banking and financial sector. During my
opening remarks at the 7th East African Banking School hosted by KIB earlier in the year, I
did mention that capacity constraints would halt the sector's vibrancy. I am happy to learn
that a good number of staff in most commercial banks have gone through the Institute's
training and have contributed to the improvement of banking and professional standards in
the industry.
The country achieved several milestones in 2007. Economic performance during the year
was tremendous with real GDP growing by 7.1 percent in the second quarter of the year
compared with 5.8 percent in 2006. Growth begets growth - that is one of my
This growth was supported by improved
conclusions in some of my research works.
performance in the manufacturing, tourism, transport and communications, and of course the
financial services sectors. The good performance is expected to continue supported by
continued stable macroeconomic environment, increased investments in infrastructure
facilities in the 2007/2008 financial year, and consolidation of financial sector to mobilize
development finance, regional economic integration and increased investments in both public
and private sector. As we continue to solve the underlying constraints.
One of the major successes in the banking sector has been the expansion of branch network
of the key banking institutions in Kenya. However, we have not yet exhausted the
opportunities to increase access to financial services by a majority of the population, and our
target is to be a regional hub for banking and financial services and the economy to be
completely monetized.
During the year, the National Economic and Social Council developed a vision for Kenya.
Vision 2030 seeks to transform Kenya into a globally competitive middle-income country with
a high quality of life by the year 2030. To realize this vision, the Kenyan economy requires a
sustained annual growth of 10% during this period. This will require maximum contribution of
each and every key sector of the economy, including the banking and financial sector. The
banking and financial sector, for instance, is expected to increase the savings rates to 30%
of GDP which will be achieved by increasing bank deposits and increasing the pool of funds
through reforms of the pension industry and the capital markets. This may require
transformation of banking institutions into larger, stronger banks with attractive savings
products and extension of credit referencing services. The insurance services sector will also
require reforms to make the players stronger and able to support a larger economy.
Ladies and Gentlemen: One of my objectives when I joined the Central Bank as Governor
this year, was to oversee an effective monetary policy that is consistent with the development
agenda of the country and the development of an appropriate financial sector in which you
play a key role.
During the year, the Central Bank pursued a monetary policy designed to support economic
growth projections of the economy, contain underlying inflation at below 5%, and refine
monetary policy operating procedures to enhance the efficiency of the monetary policy
instruments. These developments have worked, but there are challenges on the inflation
front brought about by the external shocks arising from increasing pass through effect of oil
prices and sometimes domestic food prices.
The monetary policy also facilitated adequate credit expansion to the private sector which
grew by 15% on average over the last 3 years.
Short term interest rates remained stable with a gradual upward trend in 2007, and are
expected to continue to remain stable in the medium term on account of continued
Government commitment to fiscal discipline, inflation expectations anchored on continued
low and stable underlying inflation and an independent monetary policy guaranteed by a
flexible exchange rate.
Interest rate spreads also narrowed from 9.4% in January 2007 to 8.5% by September 2007.
I wish to commend the banks for their effort in reducing the lending rates though we believe
we can still do more to bring the spread to much lower levels. Perhaps we will have time to
share our survey and analytical results on factors sustaining large spreads in Kenya.
A challenge for us all - deposits have remained low and most of the time negative in real
terms. This is not a good way to attract savings.
Let me touch on Banking Sector Development: The banking sector recorded strong growth in
the year to September 2007 against a backdrop of buoyant economic conditions. The
highlights of the sector's performance in the year to September 2007 were as follows:
•
The sector's total assets expanded by 20 percent while deposit liabilities increased
by 18 percent during the period. The increase in the deposit base was attributed to
aggressive marketing campaigns for new deposits by some institutions and rapid
expansion of branch network of banking institutions. The banking sector remained
well capitalised with capital and reserves increasing by 22 per cent as a result of
fresh capital injection and retention of profits.
•
As at September 2007 gross Non-Performing Loans declined to 12.7% of total loans
compared with 22.7% in 2006. The sharp reduction in the level of non-performing
loans was attributed mainly to write-offs against provisions held and recoveries by
some of the banks during the period under review. Additionally, the resolution of non
performing assets by the Government in one of the leading banking institutions
contributed greatly to this reduction in NPLs.
•
Pre-tax profit for the nine months period ending September 2007 increased by 36.4
per cent to stand at Ksh 26.6 billion compared with Ksh 19.5 billion in September
2006. The improved profitability was attributed to an increase in interest income on
loans and advances, government securities and non-funded income, all attributable
to the vibrancy in the sector.
Mr. Chairman, allow me to commend your members for the excellent performance in the
banking sector. On our part, we remain committed to fostering a stable market based
financial system as mandated by law. We will continue to develop and enforce a legal and
regulatory framework that fosters a safe, efficient and accessible financial system. You will
agree with me that a sound financial system is indeed a catalyst for the high economic
growth that the country needs to move to new development frontiers.
Let me also salute the commercial banks for the various innovative niche products
introduced during the year. It is only through such new products that we can counter the
"negative innovation" that saw the proliferation of pyramid schemes in 2007. At the CBK, we
are consulting with other market players including the banking sector with a view to
conducting sensitization and awareness programmes to enlighten Kenyans about these
unscrupulous schemes. One conclusion we have arrived at in CBK is that once barriers
to entry and transaction costs of maintaining bank accounts are solved, the
downstream market will be vibrant and lucrative thereby improving financial access.
The Banking landscape has become very dynamic. During the year Central Bank licensed
two fully fledged Sharia compliant Banks, First Community Bank and Gulf African Bank.
These banks are expected to introduce novel Sharia compliant products adding to the
existing variety in the sector. We believe this is in tandem with national aspirations of
developing Kenya into a premier financial services hub in the region with a variety of
competitive products on offer.
Ladies and Gentlemen: I will spend the next few minutes to highlight the various initiatives
undertaken in the course of 2007 in order to enhance the legal and regulatory framework for
the sector.
The comprehensive review of the Banking Act that commenced in 2006 was completed in
May this year, and the revised Draft submitted to the Minister of Finance in June. The draft is
currently being reviewed by the Attorney General and will be put to another round of
stakeholder consultations before publication and tabling in Parliament. The overarching
objective of the review was to align the Act to best practice as stipulated by the Basel
Committee on Banking Supervision and to take into account emerging issues in the sector.
Ladies and Gentlemen: the lack of credit information sharing has in the past been a
contributory factor to the high levels of non performing loans in the sector. Furthermore,
banks have tended to rely more on physical rather than on "personal" collateral in their
lending decisions. Following the enactment of the Finance Act, 2006 that made the sharing
of information on non-performing loans compulsory, the Central Bank in partnership with the
sector formulated regulations on Credit Reference Bureaus. The regulations which are
currently under review by the Attorney General will provide the framework for the licensing
and oversight of Credit Reference Bureaus by the Central Bank. Credit Information
Sharing will reduce the incidence of non-performing loans and enhance access to
credit by individuals in the informal sector and Small and Medium Enterprises who
can rely on "personal" collateral, or other innovative forms of collateral that the
market may develop.
A sound legal and regulatory framework for money laundering prevention and control is
critical to safeguarding the integrity of the Kenyan financial system. In this regard, the
Proceeds of Crime and Money Laundering Prevention Bill was tabled in Parliament in May
2007. The Bill has since lapsed, but we anticipate it will be retabled in Parliament in the
coming year. On our part, we will continue enforcing without exception, the Guideline on
Proceeds of Crime and Money Laundering (Prevention) to deter the use of the Kenyan
banking system for money laundering purposes.
A survey released early this year indicated that 38% of Kenyans lack access to financial
services. This population has been kept away from banks due to fear of costs and barriers to
entry. Once the income side is solved through economic growth and an enabling legal and
regulatory framework for Microfinance Institutions is created, it is our strong belief that this
will go a long way in pushing forward the "Kenyan access to financial services frontier".
As you will recall, the Microfinance Act was assented to in December 2006 and the
regulations to operationalise the Act are currently under review by the Attorney General.
Once gazetted, the regulations will provide the Central Bank with a platform to license and
oversee Microfinance Institutions. This means more players and more flexibility and
competitiveness within the financial sector.
Ladies and Gentlemen: It would be remiss of me not to address the current "buzz word" in
supervisory circles, "Basel II". As you are aware, the Basel Committee issued the Basel II
Capital Framework in June 2004. Basel II was ready for implementation among the
Committee's 13 member countries from the end of 2006. It is, however, widely acknowledged
that Basel II will only be implemented in emerging economies such as Kenya at a later date
as they put the requisite supervisory infrastructure in place. This position was indeed
adopted by the Central Banks of Kenya, Uganda and Tanzania in 2005.
Since then, we have focused on putting in place the requisite supervisory infrastructure as I
have alluded to in my remarks this evening. I am delighted that we have made substantial
progress towards this end. Accordingly, we commenced in September, a consultative
process with the Banking Sector that will lead to the formulation of a policy position on
implementation of Basel II in Kenya in the course of 2008.
The financial sector will be facilitated to play a pivotal role in achieving these objectives
through reforms aimed at achieving:
•
STABILITY in the sector to ensure that all banks and financial institutions taking
deposits safely handle the public's savings and ensure that the chances of financial
crises are minimized.
•
Greater EFFICIENCY in the delivery of financial services to ensure that the costs of
services become increasingly affordable and that the range and quality of services
better caters to the needs of both savers and investing businesses.
•
Improved ACCESS to financial services and products for a much larger population
of Kenyans.
Let me reiterate that a consultative approach will be followed to ensure that the best interests
of the banking sector and national development aspirations are taken into account in
formulating the policy position.
The Payments System has undergone active modernization that began in 1998 to develop a
world-class payment system to ensure: increased efficiency and effectiveness of the clearing
and settlement; provision of a variety of instruments and mechanisms for an integrated,
modern and technologically sound payment system for transfer of funds between transacting
parties; reduction and containment of systemic and other payment related risks; reduction of
settlement cycles; enhanced access to financial services and promotion of Kenya as a
competitive regional and international financial center.
Given the importance of payment and settlement systems in the economy, the Central Bank,
with the support of Kenya Bankers Association, implemented a Real Time Gross Settlement
system two years ago going by the acronym KEPSS (Kenya Electronic Payment Settlement
System). The Central Bank is happy with the way that the Banking Sector adapted to its
usage especially for inter-bank payments. I commend the banking fraternity for this
cooperation. The total value of transactions processed through the system increased by 71.4%
from Kshs 496.3 billion in August 2005 to the current level of Kshs 850.7 billion. A
commercial bank survey conducted in July 2007 indicated that 75.1 percent of the users
were corporate while 24.9 percent were individuals.
Central Bank is, however, convinced that this system's usage for third party payments can
still be enhanced and accordingly, the Bank is seeking your support in achieving this
objective by way of pricing the service competitively among other contributions. The Bank
has also initiated action in a number of areas namely: linking the Central Government and
Kenya Revenue Authority to KEPSS and capping the value of payments processed through
the clearing house in order to reduce systemic risk associated with the large value payments
while at the same time increasing the number of transactions processed on a RTGS basis.
Turning to the retail payment sector, the Central Bank has observed increased use of plastic
money or payment cards and the use of mobile phones to transfer money in Kenya. In a
recent survey carried out by the Central Bank, ATMs in Kenya grew from 648 in June 2006
to 844 in June 2007. The mobile phone as a means of transferring money was introduced
early in the year and is recording rapid increase in usage especially for rural to urban funds
transfers. This phenomenal growth is evidence of the modernization and innovations taking
place in payments in the country. In order to facilitate this growth further, banking institutions
are encouraged to expand access to the rural areas without ignoring the fact that enhanced
reliability of these new technologies is equally important.
The above developments notwithstanding, Central Bank recognizes the fact that a sound
legal framework plays a crucial role in the proper functioning of payment and settlement
systems and the financial sector as a whole. To this end, a proposed National Payment
Systems Bill, 2007 has been forwarded to the Attorney General's office where it is
undergoing final drafting to reinforce the existing general legal infrastructure that affects
payment systems. The law will provide a legislative framework for governing the operations
of national payment systems and payment instruments in Kenya when enacted. It is
important that legislation takes place when the infrastructure is in place and the players are
prepared. It is our hope that this will be realized by end of the first quarter of next year.
In closing, let me underline the Central Bank's commitment to partnership with the banking
industry in facilitating the development of a sound banking system with highly trained
professionals that would improve the standards and mobilize the substantial resources
required for our country's development.
Finally, Ladies and Gentlemen, as we head towards the festive season, I take this
opportunity to wish each and every one of you a Merry Christmas, a peaceful electioneering
period and a prosperous New Year. Thank you.