By Julius Businge
So what if Mutebile reduces bank rate but lending rates stay up?
The recent strike of traders against banks over high lending rates put Esther Nakitende in a tight spot. The clothes seller on William Street in downtown Kampala city followed instructions from the Kampala City Traders Association (KACITA) which led the strike her association and withdrew all her money from the bank. Soon, however, she found she had nowhere to keep it.
“It is risky to stay with cash. Thieves are always watching us. But all this is all because government has failed to help us,” she said. She realised she needed the banks. But do the banks need her? Obviously they do but have strange ways of showing it. Trade and commerce constitutes the single largest borrower community in Uganda. Between 1995 and 2010 it accounted for almost Shs 5,000 billion, ahead of the manufacturing sector. Mass withdrawal by traders would certainly hurt banks’ loan portfolios and their deposits.
But in a telling incident during a meeting with the traders at the height of the strike, President Yoweri Museveni narrated his ordeal with one of the banks. The president said he needed a quick loan and called the manager of Stanbic bank. The manager was “busy” so the President left a message with his secretary requesting him to call him back. The stanbic manager did not call the President back.
“If you cannot return a phone call from the President, “Museveni told the traders, “How will you treat the other customers?”
Such arrogance from the commercial bank managers has led many customers to scoff at Bank of Uganda Governor Tumusiime Mutebile’s promise that he would cause them to lower their prime lending rate.
At a meeting in the Prime Minister’s office on day one of the traders strike, Mutebile said he would reduce the Central Bank Rate (CBR) next month and that would lead to commercial banks lowering their lending rates. Since then, the question has been whether Mutebile can or will deliver on his promise to lower the lending rate. He can lower the CBR but will that make commercial banks lower the lending rates?
The traders had shut their business starting Jan. 11 to protest against the high lending rates the commercial banks were charging since the central bank started a stepped hiking of its CBR from 13% in July to 23% in November, 2011. Over the same period, the weighted average lending rate, which is the rate at which the bank lends to its most favoured customers, rose from 19.57% to 30%. The traders were quickly supported by an angry parliament, economists, some government officials, and the public.
By January 2012, Uganda had the second highest CBR in the world of 23% after Belarus whose equivalent, called the refinancing rate, was 45%. But then Belarus had an inflation rate above 120% and Uganda’s was “just” 27%. DR Congo was at 22% and Kenya at 18% with their inflation at 15% and 19% respectively. Uganda and Kenya’s central banks have inflation targets of 5% while DR congo targets 9%.
Interest rate tussle
The CBR is principally the central bank’s inflation targeting tool. That is why the central bank has both the CBR and a “Bank Rate” which is the policy rate designed to influence the 7-day inter-bank rate which in turn is designed to more directly influence commercial bank lending rates. Therefore, although the rate of inflation influences the interest rate and the central bank is fighting to control both via a tight monetary policy, the duo are separate creatures.
Analysts say that, basing on the month-on-month inflation that has dropped into the negatives since November 2011, Mutebile might lower the CBR to 20% or less. What remains uncertain is whether commercial banks will follow by lowering their lending rates.
Most likely they will – very slightly for purely prudential reasons. Most recognise that Mutebile has little or no influence over the three main causes of inflation in Uganda; the cost of food and fuel, the value of the shilling, and the balance of payments position. They watched him as he looked on helpless as inflation surged from below 5% in January 2011 to over 30% by end of year.
Mutebile says his CBR-led interventions, especially the inflation targeting policy launched at the height of an exchange rate crisis mid last year, have arrested what could have been a more catastrophic situation. Inflation has begun to gradually ease off. Year-on-year, headline inflation was at 27% in January and in negatives for month-on-month since November. But some analysts say the year end positive trends have less to do with Mutebile’s CBR than the cyclical inflow of dollars and drop in food prices over the peak harvest season. Some predict negative indicators to return by May-June.
Significantly, commercial banks have previously not been responsive to BoU intervention regarding lending rates. What the BoU sees as their response to its CBR might be opportunism. The high CBR is a perfect pretext for them to make higher profits.
When Mutebile first announced a CBR of 13% in July 2011, the weighted average commercial bank lending rate hovered around the 19.97% mark according to BoU data. It had held steady in that range since early 2011 despite surging inflation. It is noteworthy that over this period, the relevant BoU instrument; the main policy rate, the bank rate, was about 15%.
By November 2011 when the CBR was raised to its highest of 23%, the prime lending rates swung unnervingly to 30% for some banks.
Analysts, however, point out that before the July spike, in March 2010, the bank rate was a lowly 7.83% but commercial banks were lending money to their prime customers at a whopping 21.3%. This tendency by commercial banks to charge borrowers highly is historical and Mutebile, President Yoweri Museveni and finance ministers from Suruma to Syda Bbumba have battled them to lower it without success. Mutebile liberalised the banking sector to attract more commercial banks in the hope that competition between them would lower lending rates. It did not. Recently, he introduced the Credit Reference Bureau to audit borrowers and lower risk for the commercial banks. He hoped it would lower lending rates. It has not.
Last year’s 28% was the highest that the BoU has set the bank rate in the last six years. But in July 2000, it put it at a high 26.99%. The commercial bank weighted lending rate at the time was unmoved; it stayed at 23.97%.
Even when the BoU reduced the bank rate to 5.99% in March 2002, the commercial banks kept their average lending rate at 20.27%. Commercial banks obviously do not care about Mutebile’s opinion on lending rates. In fact the lowest lending rate in the last six years, according to BoU data, was 16.89% in October 2003. At the time, the bank rate was a high 23.91. The commercial banks were telling Mutebile to shut up because he was misreading the market.
The average lending interest rate in 2010 was 20.17 in 2010, according to a World Bank report released in 2011. It was 20.96% in 2009 and 20.45 in 2008.
Part of the reason for commercial bank indifference is because most of them are foreign owned-multinational entities. Their decisions are not locally generated. Their rates reflect their external view of the local economy expressed mathematically in assessments of risk and cost of money and operations. In the recent interest rate saga, Standard Chartered, Barclays, and Stanbic raised their prime lending rates highest to 28.5%, 29%, and 29.5% respectively.
Faced with the reality of Mutebile’s impotence to control the powerful commercial banks, Nakitende says traders need to ally with other business groups that suffer the high interest rates; manufacturers, taxi operators, fuel dealers, vendors, boda boda associations, workers’ unions, among others, to leverage their clout with government.
“This will give us more power to force government to respond,” Nakitende said.
KACITA knows its power. It has used its sensitive position in the economy to force its will on the government. It protested against unfair taxes, exchange rate instability, and trade licenses and changes were made. So its members expected the BoU governor to reign in the banks quickly. The traders argued that the new hiked rates should apply to new loans only.
At the time, the chairperson of the Uganda Banker’s Association, also Managing Director of Standard Chartered Bank, Lamin Manjang told The Independent that bankers are “all driven by the central bank rate”.
“We can’t just wake up and reduce interest rates when our regulator has not reduced the CBR,” Manjang said.
Crane Bank Managing Director A.R. Kalan, whose prime lending rate hit 28% in January, said the depressed deposits in the sector left banks with limited sources of low-interest cash to lend.
“We can’t operate on losses because we have to pay salaries, meet costs like print, fuel and others,” he said.
Mutebile too, to his credit, stuck to his liberalised banking sector script. He advised them to reread their contracts properly. Most had not read the fine print in their contracts on “fixed” and “floating” rates. In any case, after years of relative financial stability; with inflation at around 5% for two decades, the issue was never moot.
Mutebile also told them that high interest rates are a small price to pay in the short-term to save the economy from the scourge of inflation in the long term.
“The central bank cannot reduce the CBR abruptly since it is helping in reducing inflation. We have to wait for next month (February) when we will have to reduce the rate,” Mutebile told them.
The traders did not agree. Their strike ran the ordained three days. When business resumed, according to the Uganda Bankers Association Executive Director Emmanuel Turyamuhika, there were losses all round.
“We couldn’t bank and traders didn’t receive any money either,” Turyamuhika said, adding that while it was too early to estimate the extent of losses, the relationship damage would need to be repaired.
Mutebile says he expects inflation to fall steeply from the 27% in January to 8% in June. He says this would automatically lead to reduced interest rates. But given the wide gap between his projections and the reality on the ground over the past year, things remain unpredictable and outside of the remit of any promises he might make.
Some analysts note a disjoint between Mutebile’s tight monetary policy and the much publicised fiscal indiscipline the governor has been complicit in. Examples include the controversial off the books purchase last year of fighter jets for US$ 744 million (Approx. Shs 2 trillion which is equivalent to 25% of the national budget) last year, and the issuing of letters of comfort to businessman Hassan Basajjabalaba worth Shs 156 billion.
“It is Mutebile who caused the problems we are experiencing now,” says Oduman Okello, an economist and consultant.
Many want Mutebile to ensure that other organs of government – particularly the Ministry of Finance, undertake the emergency measures needed to stimulate economic activity and prevent businesses from collapsing in the short-term.
Dr. Isaac Nkote, senior lecturer at Makerere University Business School, says the government has erroneously left the task of stabilising the economy to the central bank. He said by relying only on targeting inflation and emphasising price stability, the government was turning a blind eye to economic activity as businesses face closure over unaffordable loans.
Nkote said to avoid an economic crisis, it was necessary to strike a balance between monetary policy and fiscal policy, because while the country can tolerate moderately high levels of inflation, it cannot survive economic inactivity.
The economist said Mutebile’s policy needed fiscal support in terms of subsidies to boost production and economic activity so as to support economic growth.
Nkote said unfortunately some of the drivers of inflation – tied to public expenditure – cannot be easily reversed and will continue to be a burden that manifests itself in crises like the one of interest rates. Such include the creation of new districts, constituencies and ministerial posts, which have exponentially increased public expenditure.
He says since inflation is gradually easing, the central bank should relax its monetary policy and lower the CBR to about 18 percent to encourage private borrowing.
However, Dr. Laurence Bategeka, Principal and Research Fellow at the Economic Policy Research Center, says traders should not expect monetary policy to always favour them. He said there was no policy that could reduce both inflation and interest rates at the same time.
“The implementer of monetary policy will choose who to hurt in the interventions to solve the problem,” he said.
He argued for strengthening the fight against corruption to allow public funds to flow into activities that support production, creation of employment, development of infrastructure like energy, roads, rail, and others, instead of consumption by a few individuals. Sound institutions like an agricultural bank, similar to the Uganda Development Bank (UDB), which can still be run on a commercial basis but at reduced interest rates are vital.
Even for the central bank, however, a lot remains uncertain. Its latest monthly Monetary Policy Report, for December 2011, warns that while it was clear inflation and the CBR had peaked, it remains high, and any number of uncontrollable factors could throw projections off-course. It mentions the European debt crisis, and the unpredictable global economic slow-down that could undermine exports, destabilise the shilling and scare off investors.
With economic growth projections downgraded from the 5% target to 4%, Bank of Uganda is constrained in how boldly it can ease up on the CBR. Too much easing and inflation could climb back up and the exchange rate tumble. Too little and the economy will stall.
“BoU’s tight monetary stance will continue to reflect a combination of the need to stabilise the economy and the structural problems that could be aggravated by in the interest rates hike,” the central bank cautioned.