Both the fiscal imbalance and structure of monetary policy mean that Kenya continues to be a high interest rates environment. Further, the public sector has out-competed the private in the credit market for over a decade and half.
Under these circumstances, the role of Development Finance Institutions (DFIs) is urgent and critical.
We require DFIs because the industrial enterprises that they finance have long payback periods, need patient capital, and are unable to shoulder high interest rates. DFIs provide long-term capital and financial services to sectors of the economy or projects that are considered too risky for traditional commercial banks.
The latter prioritise short-term profitability and shareholder returns.
DFIs on the other hand, are driven by a dual mandate – financial sustainability while maximising socio-economic development. To fulfill their purpose, DFI work around four main pillars – bridging market failure, crowding-in private capital, advisory services and implementing policy priorities.
As they should, commercial banks avoid high-risk, high-return projects with long payback periods. DFIs step up to fund such projects in infrastructure, energy plants, and large-scale manufacturing. They invest in and lend to underserved sectors such as Agriculture, and micro, small, and medium enterprises (MSMEs).
DFIs serve as market catalysts. By offering moderately priced and well-structured loans, equity investments, or partial risk guarantees, a DFI de-risks a project, giving commercial banks and private equity funds the confidence to co-invest. In addition, DFIs provide business advisory services.
DFIs provide governments a policy execution platform. For example, in Kenya, the Agricultural Finance Corporation (AFC) directly funds food security initiatives, while the Kenya Development Corporation (KDC) targets industrial goals aligned with Kenya’s Vision 2030 and the Bottom-Up Economic Transformation Agenda.
Current and previous administrations have tried to reverse the decline (12.5 percent to 7.1 percent in 15 years) of the proportionate contribution of manufacturing to GDP, without success. This is because of the dearth of appropriate finance. The case for DFI reform has, therefore, never been more urgent.
To lay foundation for the future, the DFIs themselves are pushing for a modern, appropriate regulatory framework – one that would make it easier for them to raise and deploy capital. To this end, they convened a stakeholders meeting this past week at a city hotel.
Most were created by Acts of Parliament. Since then, their operating environment has evolved considerably. The original Joint Loan Board Credit Scheme (created alongside ICDC in 1954), provided micro finance, but was phased out, replaced by enterprise funds in most counties. Youth, Women, Uwezo and most recently Hustler Funds other recent policy initiatives.
The Small Enterprise Finance Company (Sefco), established in 1983 as a subsidiary of the Development Finance Company of Kenya (DFCK), focused on industrial loans under five million shillings. It was later absorbed into the Development Bank of Kenya.
The KDC is a merger of Industrial Commercial and Development Corporation (ICDC), IDB Capital and Tourism Finance Corporation (formerly Kenya Tourism Development Corporation).
The Kenya Industrial Estates (KIE), Agriculture Finance Corporation (AFC) and Agriculture Development Corporation have retained much of their original form, although the latter is no longer seen as a development finance institution after the Land Transfer Program wound down.
Regulated by the Central Bank of Kenya using a specialised regime, the Kenya Mortgage Refinance Company (KMRC), is the latest entrant.
The stakeholders meeting last week agreed that specialised regulation is not control. For instance, the CBK regulates commercial banks, but does not control their boards of directors.
It conducts fit and proper tests on directors to be appointed, but does not appoint them. In comparison, DFI boards are appointed by a Kenya gazette notice on a Friday afternoon. The Government Enterprises Act did away with this sort of control.
We debated the best regulatory regime, considering four options – a specialist regulator, CBK-led, self-regulation, and a hybrid of all the above. We preferred a CBK-led specialised regime, tailor-made for the sector.
At below Sh60 billion, the total DFI portfolio is regrettably too small to create real impact in the economy – that would require about Sh700 billion to-Sh800 billion.
If I could persuade my Treasury bosses, we would make a once-off investment Sh60 billion and Sh70 billions, and invite other shareholders, into DFIs.
We should revive Sefco with Sh5 billion, and inject Sh15 billion each into KIE and AFC; and Sh25 billion to the KDC. This will make it possible for DFIs to mobilise resources in the capital markets, just like KMRC.