Kenyan Banks Align Lending Formulas With New Risk-Based Pricing Framework

(MENAFN- The Arabian Post)

Nairobi - Kenya's commercial banks have begun to implement a revised risk-based credit pricing framework that standardises how loan interest rates are set, driven by directives from the Central Bank of Kenya aimed at enhancing transparency and aligning borrowing costs with market conditions. Banks are now required to price variable-rate, Kenya-Shilling loans using a common reference rate plus a risk-adjusted premium, a shift designed to tighten the link between monetary policy and retail lending and improve comparability for customers.

Under the framework, lenders have two permissible benchmarks: the Kenya Shilling Overnight Interbank Average and the Central Bank Rate. The rate for each loan is determined by adding a borrower-specific premium, which reflects credit risk, operating costs and expected shareholder returns, to the chosen reference rate. All 37 banks have submitted their formulas for the new pricing approach, though a significant share has opted to use the CBR as the base rather than KESONIA, potentially diluting the original policy ambition to anchor pricing more closely to interbank market pricing.

CBK Governor Dr Kamau Thugge has consistently emphasised the benefits of this model for monetary policy transmission, asserting that it will ensure banks pass changes in the policy rate more swiftly and clearly to borrowers. The move forms part of a broader monetary framework reform that includes an interest-rate corridor intended to stabilise both interbank and lending rates around the central bank's benchmark.

The transition began on 1 December 2025 for new variable-rate loans, with existing facilities due to be migrated by 28 February 2026. Commercial lenders have been required to disclose monthly lending rates, the weighted average premium and all associated fees on their websites and through the Total Cost of Credit portal, a mandated central repository aimed at fostering consumer awareness and enabling better comparisons across institutions.

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Equity Bank and KCB Bank Kenya are among lenders that have publicly announced adjustments to their loan pricing strategies in line with the model, reflecting activity from the central monetary authority and evolving market conditions. Both have aligned their base lending rate to the CBR, which CBK cut by 25 basis points to 9.0% during its monetary policy committee meeting as part of ongoing efforts to stimulate credit uptake amid steady economic growth and subdued inflation pressures.

The shift to risk-based pricing consolidates a long-term agenda to address criticisms that Kenyan banks were slow to transmit lower benchmark rates to customers when policy rates ease. Historically, banks maintained idiosyncratic base rates that often bore little relationship to the central bank's stance, leading to fragmented pricing practices and difficulty for consumers in benchmarking costs. By tying lending rates to a common base, regulators aim to eliminate arbitrary pricing and improve competitive dynamics within the sector.

However, implementation has revealed tensions between regulatory design and commercial practice. Nearly half of lenders have chosen the CBR as their reference rate rather than KESONIA, citing practical considerations linked to operational readiness and the volatility of interbank rates. The prominence of the CBR in pricing formulas has drawn commentary from industry representatives who argue that using the central bank's policy rate as a de-facto benchmark resembles past interest-rate cap regimes that the sector spent years moving away from.

The Kenya Bankers Association has highlighted that the dual-benchmark approach may be a necessary transitional arrangement, enabling banks to upgrade internal systems and compliance frameworks before adopting KESONIA more extensively. The association contends that using the CBR allows lenders to maintain stability while progressively integrating the interbank benchmark into pricing models.

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Economists and consumer advocates have diverging perspectives on the likely impact. Proponents argue that transparent pricing will empower borrowers with clarity on the true cost of credit and spur competition, particularly benefiting low-risk clients who may secure lower premiums under a disciplined model. Critics caution that the emphasis on risk profiling could lead to more expensive credit for small and medium enterprises or borrowers lacking formal credit histories, potentially tightening access for segments of the market.

Banks are under increased scrutiny to balance regulatory expectations with profitability. The premium component of the pricing formula is designed to reflect genuine cost and risk differentials, yet the exact methodology for calculating these risk charges remains closely guarded by institutions. Market analysts suggest that full transparency in premium determination will be essential to realising the consumer protection goals underlying the reform.

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