Interest Rate Caps around the World: Still Popular, but a Blunt Instrument

Abstract

The Policy Research Working Paper Series disseminates the findings of work in progress to encourage the exchange of ideas about development issues. An objective of the series is to get the findings out quickly, even if the presentations are less than fully polished. The papers carry the names of the authors and should be cited accordingly. The findings, interpretations, and conclusions expressed in this paper are entirely those of the authors. They do not necessarily represent the views of the International Bank for Reconstruction and Development/World Bank and its affiliated organizations, or those of the Executive Directors of the World Bank or the governments they represent.

Logit Analysis of the Relationship between Interest Rate Ceiling and Micro Lending Market in Kenya

“…This is supported by Maimbo and Gallegos (2014), who observed that in South Africa, MFIs evaded caps by charging credit life insurance and other services, which reduced the transparency of the total cost of credit. They further stated that in Armenia, lack of clarity on how to calculate the interest rate led MFIs to impose fees and commissions not defined by the ceiling laws.…”

“…In situations where the scope of ceiling is not clear, financial institutions may give the impression of compliance with the ceiling but charge fees and commissions that are not considered part of the cost of the loan. In South Africa, some financial institutions evaded caps by charging credit life insurance and other services, which reduced the transparency of the total cost of credit and in Armenia, the lack of clarity on how to calculate the interest rate led banks and microfinance institutions to impose fees and commissions, thus avoiding the ceiling and reducing the transparency for consumers (Maimbo & Gallegos, 2014). Mohane et al (2002), argue that the consequence is people who want finance, but due to their circumstances do not qualify at the ceiling interest rate are denied access.…”

“…Countries like El Salvador, the Kyrgyz Republic, and Zambia responded by introducing fresh interest rate caps on loans. Japan among other economies responded by imposing more restraing caps (Maimbo & Gallegos, 2014).…”

“…On the other hand, interest rate ceilings may also be a good way to limit access to credit to some impaired and low-income consumers, because they help avoid social harm (Reille & Helms, 2004). Studies show that interest ceilings on loans were successful in the Republic of Korea for the period and that financial liberalization did not significantly help increase financial depth (Maimbo & Gallegos, 2014).…”

Global Financial Inclusion and Consumer Protection Survey, 2017 Report

“…Some financial sector authorities apply caps on interest rates on loans to protect consumers from excessive interest rates, support a specific industry or sector, or reduce the market power of credit providers. Generally speaking, interest rate caps can have market-distorting effects and reduce access to finance for some borrowers (Maimbo et al 2014).…”