Did you know a microfinance loan is more expensive than a commercial bank one? In Kenya, banks and microfinance institutions (MFIs) play critical roles in the financial sector, catering to different population segments. Banks primarily serve larger businesses and individuals with stable incomes. MFIs focus on providing financial services to low-income individuals and small businesses, mostly excluded from the formal banking system. This article delves into the differences between banks and microfinance institutions in Kenya, highlighting their unique roles, services, and impacts on financial inclusion.
Definition and Roles of Banks and MFIs in Kenya
Banks
Banks
are formal financial institutions that provide a wide range of financial
services, including accepting deposits, offering loans, and providing payment
and investment services. They are regulated by the Central Bank of Kenya (CBK)
and cater to individuals, businesses, and corporations. Banks play a pivotal
role in the economy by facilitating savings, investments, and credit flow.
Microfinance
Institutions (MFIs)
Microfinance
institutions are specialized financial entities that offer financial services
to low-income individuals or groups who typically lack access to traditional
banking services. MFIs aim to promote financial inclusion and alleviate poverty
by providing microloans, savings, and insurance products. They operate on a
smaller scale than banks and are regulated by the CBK, particularly
the deposit-taking MFIs.
Services Offered by Banks and MFIs in Kenya
Banks
Banks
in Kenya offer a broad spectrum of financial services, including:
- Deposits:
Savings accounts, fixed deposits, and current accounts.
- Loans:
Personal loans, business loans, mortgages, and credit lines.
- Payment Services:
Debit and credit cards, electronic funds transfers, and mobile banking.
- Investment
Services: Mutual funds, fixed-income securities,
and wealth management.
- Foreign Exchange
Services: Currency exchange and international money
transfers.
Example:
Equity Bank provides comprehensive banking services, including savings
accounts, personal and business loans, mobile banking through the Eazzy Banking
app, and investment products.
Microfinance
Institutions (MFIs)
MFIs
focus on offering financial services that cater to the needs of low-income
individuals and small businesses, such as:
- Microloans:
Small loans typically range from a few hundred to a few thousand
shillings.
- Savings Accounts:
Low minimum balance savings accounts.
- Micro-Insurance:
Insurance products tailored to low-income clients, covering health, life,
and property risks.
- Training and
Support: Financial literacy and business
management training.
Example:
Kenya Women Microfinance Bank (KWFT) provides microloans, savings
products, and financial training specifically designed for women entrepreneurs.
Banks & MFIs Accessibility and Target Market in Kenya
Banks
Banks
primarily serve individuals and businesses with stable incomes and good credit
histories. They operate in urban and semi-urban areas with more financially stable clients. Banks require extensive
documentation and credit checks, making accessing their services challenging for low-income individuals.
Microfinance
Institutions (MFIs)
MFIs
target low-income individuals, small businesses, and entrepreneurs who lack
access to traditional banking services. They are more prevalent in rural and
underserved areas, providing essential financial services to
marginalized communities. MFIs use innovative approaches, such as group lending
models, to mitigate the default risk and ensure broader credit access.
Bank vs. Microfinance Interest Rates and Costs in Kenya
Banks
Banks
in Kenya offer lower interest rates than MFIs due to their larger scale
of operations and the lower risk profiles of their clients. For instance, as
seen in the data from a loan estimate by costofcredit.co.ke (a complementary service by Kenya Bankers Association that
provides a non-binding approximation of the cost of a bank loan in an effort to
help prospective borrowers estimate loan costs), Co-operative Bank Kenya, the
bank charges an annual interest rate of 18% for a personal secured loan of KES
1,200,000 over five years. The total amount to be repaid is KES 1,896,007, with
an estimated APR of 20.74%.
- Lower Interest
Rates: Banks can afford lower interest rates
because they cater to a broader, often more financially stable customer
base.
- Additional Fees:
Banks may charge various fees, including account maintenance fees,
transaction fees, and loan processing fees. For example, Co-operative
Bank's total charges amount to KES 67,680, which includes bank charges and
third-party costs.
Estimates for Co-operative bank loan
Microfinance
Institutions (MFIs)
MFIs
generally charge higher interest rates on loans due to the higher risk
associated with lending to low-income individuals and the higher operational
costs of reaching underserved areas. Caritas Microfinance Bank, for example, in
the estimator, charges an annual interest rate of 144% for a similar loan
amount and term. The total amount to be repaid is KES 1,963,200, with an
estimated APR of 1.45%.
- Higher Interest
Rates: The higher interest rates reflect the risk and
operational costs of serving clients who might not have access to
traditional banking services.
- Cost Transparency:
MFIs often provide detailed breakdowns of the total cost of credit, which
helps borrowers understand the financial commitment. Caritas Microfinance
Bank, for instance, includes total charges of KES 43,200 in its cost
breakdown.
Estimates of Caritas MFB
Total
Cost of Credit and APR
Calculation
Methodology
The Total Cost of Credit (TCC) pricing mechanism in Kenya has been adopted to
enable consumers to compare loan costs based on standardized
parameters. The Annual Percentage Rate (APR) model converts all direct costs
associated with a loan into one comprehensive number, facilitating better
comparison.
- Bank Example:
Co-operative Bank's TCC includes an estimated total interest to be paid of
KES 628,327 and external charges of KES 31,680, resulting in a total cost
of credit of KES 696,007.
- MFI Example:
Caritas Microfinance Bank's TCC includes total interest to be paid of KES
720,000 and external charges of KES 7,200, leading to a total cost of
credit of KES 763,200.
Credit
Information Sharing (CIS)
Credit
Information Sharing (CIS) is a process where credit providers such as banks and
MFIs submit information about their borrowers to the three licensed Kenyan Credit Reference Bureaus (CRBs). This information helps build a borrower's credit history, which can be used to negotiate better credit terms and serve as alternative
collateral to traditional physical collateral.
- Positive Impact:
Borrowers with positive credit histories can leverage this to secure
better loan terms.
- Encouragement:
Bank customers are encouraged to check their credit scores from licensed
credit reference bureaus regularly.
Banks and Microfinance Regulatory Framework in Kenya
Banks
Banks
in Kenya are regulated by the Central Bank of Kenya (CBK) under the Banking Act. The CBK ensures that banks adhere to strict regulations regarding capital
adequacy, liquidity, and risk management to maintain the stability and
integrity of the financial system.
- Capital Adequacy:
Every bank must deposit 4.25% of their total customer deposits with the
CBK as the Statutory Reserve to cushion against losses and
emergencies, ensuring they can meet their obligations to depositors. In
addition to having a minimum capital of 1 billion shillings.
- Liquidity:
Banks are required to have sufficient liquid assets to meet short-term
obligations, preventing liquidity crises.
- Risk Management:
The CBK mandates robust risk management practices to mitigate various
financial risks, including credit, market, and operational risks.
Microfinance
Institutions (MFIs)
MFIs,
particularly deposit-taking ones, are regulated by the CBK under the
Microfinance Act of 2006. The CBK oversees its operations to comply with regulatory requirements, including capital adequacy, governance,
and consumer protection.
- Capital Adequacy: Like banks, MFIs must maintain adequate capital to absorb potential
losses and safeguard depositors' funds. The capital for MFIs in Kenya is KSh. 20 million for the community and KSh. 60 million for nationwide microfinance institutions.
- Governance:
MFIs must have sound governance structures, ensuring
accountability and transparency in their operations.
- Consumer
Protection: The CBK ensures that MFIs follow fair
lending practices, protecting borrowers from predatory lending and
ensuring transparent communication of loan terms.
Bank and Microfinance Impact on Financial Inclusion in Kenya
Access to formal financial services has risen steadily in Kenya since 2006 to 83.7 percent in 2021 from a mere 26.7 percent. The growth has been attributed
to the penetration of M Pesa in the country and other mobile money services, according to CBK. It is not, however, easy to classify the impact of banks vs
microfinance industries in Kenya as most Kenyans overlap with their interactions
with the banks; a customer will have multiple accounts in banks, microfinances, and SACCOs on top of mobile money.
Banks
While
banks are integral to economic growth by providing financial services to
businesses and individuals, their impact on financial inclusion is limited.
Banks tend to focus on clients with stable incomes and good credit histories, neglecting
low-income populations and underserved areas due to the high costs associated
with these segments.
- According to the Financial Access Survey
by the Central Bank of Kenya, as of 2021, only 25% of the rural population
had access to banking services, compared to 58% of the urban population.
Microfinance
Institutions (MFIs)
MFIs are crucial in enhancing financial inclusion by offering financial
services to low-income individuals and small businesses excluded from the
formal banking system. Through microloans, savings products, and financial
education, MFIs help improve the economic well-being of marginalized
communities and promote inclusive growth.
- The Association of
Microfinance Institutions Kenya (AMFI-K) reported that 2022 MFIs
served over 6 million clients, with 75% women and 65% rural residents.
Examples of Banks and MFIs in Kenya
Banks
- Equity Bank: The largest bank in customer base, Known
for its wide range of financial products and services, including savings
accounts, loans, mobile banking, and investment services. It started as an MFI and then developed into a fully-fledged commercial bank.
- Kenya Commercial Bank (KCB): The largest bank in Kenya, based on assets, offers comprehensive banking services and a strong focus on digital banking.
- There are 39 licensed banks in Kenya; here is a list.
Microfinance
Institutions (MFIs)
- Kenya Women
Microfinance Bank (KWFT): Focuses on providing
financial services to women entrepreneurs, including microloans, savings
products, and financial training.
- Faulu Kenya:
A well-known credit-only MFI providing loan products to small
businesses and individuals.
- There are 14 licensed microfinance institutions in Kenya; you can find them in the CBK Directory of Licenced Microfinance Banks list.
Banks
and microfinance institutions in Kenya serve different segments of the
population, each playing a vital role in the country's financial ecosystem.
While banks focus on providing a wide range of financial services to
individuals and businesses with stable incomes, MFIs target low-income
individuals and small businesses, promoting financial inclusion and economic
empowerment. Understanding the differences between these two financial
institutions can help individuals and companies make informed decisions about
their financial needs and access the appropriate services.
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