The Reserve Bank of Zimbabwe (RBZ) has warned domestic banks against arbitrary hikes of lending rates and called for a fine balancing act in dealing with cost and inflationary pressures to avoid tipping over an already volatile pricing situation in the economy.
The RBZ has also warned over carefree rate hikes by domestic banks as this could spark a recurrence of non-performing loans (NPLs), which saw US$1,2 billion being lifted off banks by an RBZ special purpose vehicle The Zimbabwe Asset Management Corporation (Private) Limited (ZAMCO), as the NPLs nearly paralysed fresh credit five years ago.
When capping lending rates, RBZ feared that if the local banks stopped extending fresh credit, especially to private sector, this would further slowdown an economy already under pressure from a myriad of factors such as high inflation and forex shortage.
Two years ago the central bank put lending rate cap, then under a US dollar dominated multi-currency regime, of between 12 percent and 18 percent for corporates and individuals to cushion borrowers.
Call for restraint
RBZ’s call for restraint on lending rates comes as Zimbabwe is in the cusp of madding price hikes, which have driven year on year inflation to 59,40 percent as of February and prompted banks to seek permission to raise interest rates.
“The issue about the impact of (high) inflation on (profit) returns only looks at the situation from the point of view of the impact on bank earnings, but not from the point of view of the customer.
“What it means is that there should be balance between looking at the interest rates, inflation and what will happen looking at the long term view of inflation,” a highly placed RBZ source said.
“If the banks increase interest rates, they will punish those that have already borrowed and interest rates that banks charge depend on their position and the liquidity position of the banks right now is very reasonable,” the source added.
Further, the central bank is reportedly of the view that sudden sharp increases in lending rates would hurt the economy considering this would also entail rate hikes on loans taken when inflation was still low, mostly below 5 percent.
The bank feels higher interest rates cannot be sustained by borrowers whose earnings have not grown in tandem with the inflation, which rose from 5,4 percent in September last year to 59,4 percent by February 2019. Further, extreme lending rates that track inflation could also plunge the economy into deflation, as consumers struggle with high prices amid low disposable incomes, which could lead to company closures.
Central bank sources said while the majority of banks were awash with cash, having doled out US$4 billion in loans, they were not giving out much anymore in terms of new loans to warrant rate hikes.
High interest rates after dollarisation in 2009 resulted in many borrowers failing to service their loans and defaulting, prompting the RBZ to form a debt takeover special purpose vehicle (Zamco) to enable banks to continue lending.
This was after the bank realised that banks had started scaling down on new loans on the back of rising NPLs, which the RBZ feared would negatively impact on prospects for economic growth.
Interest rate cap
Concerns over potentially disruptive interest rate hikes came after banks, through their representative body (Bankers Association of Zimbabwe), had already asked the central bank to lift the interest rate cap it imposed about two years ago.
Banks have told the central bank that in view of the prevailing inflation, the current bank lending rate regime did not allow them to adequately compensate clients and depositors and could result in financial disintermediation and market bubbles.
“The BAZ recommends the lifting of the interest rate caps in order to address the potential challenges of financial disintermediation, speculative borrowing as well as allow for proper risk based pricing of loans by banks,” said BAZ director Sij Biyam in a letter.
Banks recently told the RBZ that the current interest rate regime was now out of touch with reality on the ground after the sharp rise in inflation and rise in operational costs, as prices rampaged on the back of wild swings in black market US dollar exchange rates.
Many Zimbabwe businesses have had to resort to buying foreign currency on the black market as they could not get allocations from the RBZ, and often the pass through effects of these high forex premiums reflect in high prices.
RBZ chief on rates
Without giving away much RBZ governor Dr John Mangudya said the apex bank was in constant discussion with banks over how to handle the potentially explosive impact of arbitrary upward increases in their lending rates.
“I prefer not talking about the issue in public as the bank is constantly engaging with banks on how best we can deal with the situation, but it is a matter we are giving high priority,” he said.
Market analysts said while banks would always be able to lend out at a premium; the situation in the economy had forced banks to consider adjusting costs and lending rates, especially.
“Even though inflation is high, banks’ returns cannot be negative because they simply pass on the cost to the consumer through interest rate spreads. What the current situation does however is that it puts pressure on margins,” said an industry source that cannot be named.
As such, when high inflation puts pressure on premiums, bank would be under pressure to extend credit at much higher interest thresholds, which would affect price formation in the economy and ability to repay loans. A number of banks have already sent out notices to customers advising that they would be reviewing charges in line with the prevailing conditions in the greater economy to maintain quality service.