Kampala, Uganda | URN | Bank of Uganda Governor Emmanuel Tumusiime-Mutebile has warned commercial banks that the central bank may be forced to impose limits on interest rates they can charge on loans.
Mutebile, who appears to make a U-turn from an earlier position that banks can charge borrowers based on their assessments says he was disappointed that banks had refused to reduce charges on loans to spur growth.
This is contained in a July 7, 2020 letter to executive directors of commercial banks.
Mutebile said: “The Bank of Uganda may in consultation with the minister, by statutory instrument, prescribe – the maximum and minimum rates of interest and other charges which in the transaction of their business financial institutions may pay of deposit or other liability and impose credit extended in any form.”
Bank of Uganda has cut the benchmark rate, the Central Bank Rate (CBR), to 7% last month. A cut on rate signals the direction of interest rates with banks expected to get money cheaply but also lend it at lower rates.
Mutebile says despite consistent cuts from the central bank, commercial banks have not responded in equal measure.
“It is disheartening to see that commercial banks have not reduced lending rates in tandem with the CBR despite several discussions with the Uganda Bankers’ Association,” Mutebile said.
Commercial banks are still charging 19% average on loans, too high for the businesses at the moment. Some banks like Stanbic have reduced their rates to 16%.
The capping of interest rates is a bold gamble for Mutebile to pursue. In September 2016, a law on interest rate controls which imposed a ceiling for lending rates was passed in Kenya to force banks to reduce charges on loans.
The International Monetary Fund (IMF) said in a paper assessing the effectiveness of Kenya’s ceiling on interest rates that they resulted into “a sharp decline in bank credit to SMEs (especially in trade and agriculture), as well as a disproportionate hit on the lending activity and profitability of small banks.”
Also, banks shifted credit away from private people and businesses they regard riskier to public sector regarded as not risky. Kenya removed the caps last year.
A banker told this publication on Thursday 9th, morning that “caps will achieve short term objectives but disastrous longer term.” He added that it will likely be that banks will shift lending to government treasury bills and bonds.
The top five commercial banks in Uganda still make abnormal profits giving them room to adjust to the reduction in interest rates they charge. Small banks still struggle to make money which means being forced to reduce interest rates could hurt them more.