Kenya: Loan sharks resurface as demand for informal lending spikes

By Herald Aloo
Posted on Tuesday, 25 October 2022 11:09

A banker holds Kenya shilling notes in Nairobi, April 20, 2016. REUTERS/Thomas Mukoya

Kenya’s credit landscape has been growing in many forms, including unregulated lenders known as loan sharks, which leaves the East African nation’s authorities with an uphill struggle to deter risky informal loans.

After digital lenders and buy-now-pay-later (BNPL) platforms flourished, the loan shark businesses re-emerged as the latest segment reaping big from the credit boom.

The loan shark business, whose activities in Kenya slumped following the entrance of digital lenders in recent years, has lately thronged Kenya’s informal sectors, attracting cash-strapped consumers in need of quick loans.

Kenya’s economy is witnessing an increased demand for loans mainly for working capital and individual support, with the economy reeling on the back of the pandemic and the ongoing Ukraine war.

The popularity of loan sharks, who do not pay taxes like their peers within the formal financial sector, is fuelled by the easy access to cash, compared to mainstream financial institutions that have lengthy and tiring procedures.

Easier, yet costlier

Loan shark joints are dotting most of Nairobi’s informal settlement areas, where they operate disguisedly as licensed electronic and second-hand corner shops.

Unlike regulated lenders who rely on credit scores, loan sharks use electronic devices as collateral, such as televisions, laptops, and other household appliances, which are often valued at half the item’s market price.

In turn, loan shark customers endure high borrowing costs of 30%, way above the 12-15% average rate charged on personal loans by most banks and other licensed lenders.

The repayment period ranges between two weeks and one month, after which the lender would take possession of the relinquished items, sometimes without even prior notice.

There is no official data on the size and value of this model. But experts say informal lending could be worth billions of shillings and is likely to bloom further due to good returns, flexibility, absence of regulation, and surging demand for loans among Kenyans.

Should the unregulated lending get out of hand, Kenya will be posed to face another round of socio-economic distress, especially among vulnerable households saddled by costly interests as previously witnessed by the digital lenders.

Lack of regulation

Both loan sharks and digital lenders operate under almost similar business models. But with new Digital Credit Providers Regulations coming into force last December, the latter’s exorbitant activities could be clipped and compelled to emulate other regulated financial institutions, where details of transactions such as interest rates and credit scores are closely monitored.

Unlike loan sharks, digital lenders are required to disclose all their credit data – including interest rates, late payments, and rollover fees – before disbursing loans to customers. It also empowers the regulator to revoke the licences of firms shaming defaulters through third parties as part of tactics meant to recover debts.

“Ideally all lenders should be registered in a way that recognises the substance of what they are doing. They are part of this lending ecosystem,” says Eric Musau, Head of Research at Standard Investment Bank (SIB).

“If the current regulations do not capture them [loan sharks], then it may well be possible to expand this [regulations] for the sake of consumer protection,” he adds.

The current frenzy is also likely to weigh on a raft of bank-backed micro-lending apps that, compared to loan sharks, are disadvantaged by the increased operation costs such as licensing fees and taxes.

“Given the experiences in other countries and ours as well, it is essential to regulate our [entire] financial institutions,” says Central Bank of Kenya (CBK) governor Patrick Njoroge.

“I don’t think there are any two ways about this. It is just like doctors [and] pharmacists, if you don’t regulate them the social costs are significant, whether it [loan sharks] is regulated by the central bank or other institution, that is an issue of here and now.”

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