Commercial banks must lend for economy to recover

By Julius Businge

Standard Chartered Bank, Uganda’s second biggest commercial bank by assets and market share, has defended the commercial banking sector’s decision not to aggressively lower lending rates.

The bank’s Regional Head of Research, Razia Khan, said in a statement sent to The Independent that although Uganda has witnessed rapid improvement in inflation which should allow for much more easing of lending rates, policymakers will continue to be measured in their response, keeping in mind long-term trends and the sustainability of any easing cycle.

“This is the correct thing to do,” she said.

Khan said broader risks  – including the sizeable current account  deficit – and the risk of doing too much on the demand side to stimulate growth – will not be forgotten anywhere in the region although the speed of improvement in inflation has led to big expectations of rate cuts.

She was responding to a Sept. 4 cut in the Uganda Central Bank Rate by 200bps 15% and Governor Emmanuel Tumusiime Mutebile urgent plea to commercial banks to lower lending rates.

He said the reduction in the CBR was intended to bring about a further fall in the marginal cost of funds for the commercial banks and hence a fall in bank lending rates to stimulate a recovery in bank lending to the private sector. He said domestic demand pressures are weak with the economy operating below potential output levels.

Uganda’s economy grew at 3.2% in the year 2010/2011 down from 6.7% in 2009/2010 caused by high inflationary pressures which led to the rise in the cost of doing business. According to Bank of Uganda data, commercial banks loan applications have fallen to 33, 961 in July from 41, 646 applications in the same period last year.

But that did not stop banks from recording profits in a turbulent year, 2011. For instance, Stanbic Bank made Shs 121 billion in profit after tax in 2011 compared to Shs 73 billion the previous year. Crane Bank’s profits after tax soared to Shs 66.76 billion compared to last year’s Shs 51.59 billion – a 30% increase. Centenary Bank’s profit after tax surged to Shs 47.9 billion in 2011, up from Shs 29.4 billion in 2010.

Mutebile noted that it was unfortunate that despite the CBR having already been reduced by eight percentage points this year, commercial banks’ lending rates had not yet fallen in line.

“Now I expect commercial banks to respond more positively and reduce their lending rates to stimulate demand for credit,” he said.

He added that although BoU has no policy to force commercial banks to drop rates because the banking sector is liberalized, he expected them to cut rates.

“If they don’t they will see my…let me keep quiet,” he threatened

But Khan said the bigger question for East Africa, including Uganda, is not that they will get more easing, but how low rates are likely to trend.

In Uganda’s case, she said, the rapid improvement in inflation should allow for much more easing, providing a boost to demand.

“Little surprise from the Bank of Uganda, with a 200 bps rate cut – largely as we had expected,” Khan said, adding that the country now looks for a marked improvement in headline inflation, with a substantial base effect likely to drive inflation to single digits, allowing for further easing by the central bank.

In fact, Mutebile has projected that Uganda’s annual core inflation will fall to single digits by the end of September 2012 and then gradually flatten out at around 5% in the first half of 2013.

The Uganda Bureau of Statistics reported that annual headline and core inflation fell sharply to 11.9% and 11.5% respectively in August from 14.3% and 15.4% in July.

The lowering inflation is attributed mainly to easing in the food price shocks which afflicted the economy in 2011 and the relative stability in the nominal exchange rate since the start of the second quarter of 2011/12 has been translated into stable prices of traded goods.

Banks react

Since the latest reduction in the CBR, commercial banks have reduced the average lending rate to around 26%.

Stanbic Bank Managing Director, Phillip Odera, who is the Chairperson of the Uganda Bankers Association, said the industry’s performance was improving due to reducing inflationary pressures.

“If the central bank continues to reduce the central bank rate, commercial banks will reduce their lending rates and economic activity will improve,” he said, adding commercial banks will handle more transactions and will definitely increase their revenue.

“We need to support each other, I mean the traders [both exporters and importers],” Odera said. “It is never in the interest of commercial banks to have lending rates high because all of us would suffer if businesses are not doing well,” he said, before adding affordable rates make sense.

At the height of high interest rates last year and the first months of 2012, most commercial banks suspended lending to the public and concentrated on prime borrowers.

They argued that most borrowers would fail to pay back loans due to high interest rates. As a result banks resorted to engaging customers. “We are still engaging with “thousands” of our customers and advising them on lending decisions to avoid risks,” Odera said.

But the commercial banks’ slow response to the CBR has irked traders forcing them to petition President Yoweri Museveni to come up with a policy mandating commercial banks to respond to the central bank’s lending rates so borrowers can find it easy to access cheap credit.

NC Bank

John Okulo, the managing director of NC Bank; a new entrant in the banking industry, says they will effective Oct.1 cut their prime lending rate from 27.5% to 23%.

“We are happy to see the CBR reducing,” he said, “This is going to enable us access cheap funds to lend to our customers at affordable rates.”

Bank of Africa

Bank of Africa announced on September 3 a day before the CBR for September was announced that due to the prevailing market conditions (decline in inflation and monetary policy easing) it was adjusting its base rate from 26% to 24% effective October 1.

Housing Finance Bank

Housing Finance Bank Managing Director, Nikolas Okwir, said they were cutting their base rate to 24% from 26.5% effective October 1.

Okwir said adjusting base rates takes time and so banks should not be pressured to cut the rates sporadically. “It depends,” he told The Independent on Sept.7, “Even Bank of Uganda takes a month to decide on the CBR for the new month”.

Okwir said they were happy to see inflation reducing and Bank of Uganda cutting the central bank rate. “That’s what we all want,” he said. “Once we get cheap funds then we will be able to lend at lower rates.”

Stanbic Bank

Stanbic bank announced on September 7 that it was decreasing its prime lending rate from 27.5% to 23% (per year). Like other banks, Stanbic said the changes in market conditions had caused the change. It said that the change would impact customers with existing loan facilities linked to the prime rate since the applicable interest rate would be adjusted automatically.

According to its unaudited financial statements for the period to June 30, 2012 the bank recorded a 10.3% increase in net profit to Shs58.3billion compared to Shs52.8billion recorded in the same period last year.

The Bank’s managing director Phillip Odera said the bank had started to record a marginal rise in customer deposits and increases in demand for loans because the cost of funds had started to decline.

The bank’s results show customer deposits rose to Shs2.08trillion (representing a 13.5% growth), loans and advances to customers rose to Shs1.48trillion, indicating a 3.7% growth. The bank’s assets increased to Shs2.85 trillion from 2.45 trillion in 2011, representing a 14.8% growth.

Standard Chartered

Standard Chartered Bank and Centenary Bank have also cut their base rate to 24%

Traders react

“The issue of liberalisation can’t work,” he said. “Government has to force banks to cut their rates,” the Chairman of Kampala City Traders Association, Everest Kayondo, told The Independent in a Sept.4 interview.

“We even told the president when we met him that when it comes to increasing the CBR banks will respond faster and increase their rates but when it comes to reducing the CBR they will not,” Kayondo said.

He said banks have taught them a “lesson” and come next year their own bank [the traders’ bank] will start.

“We are done with the concept paper and we hope we will have our bank started in the first months of 2013.”

The CBR has been mired in controversy since it was introduced in July last year as the Central Bank’s monetary policy instrument to guide lending rates in the market. The aim was to battle inflation which had risen to 18.7% at the time. The CBR was set at 13%. Three months later, in October, stubborn inflation had spiked to a seven year high of 30.4% and Bank of Uganda had raised the CBR to 23%.

Commercial banks, while arguing that they were responding to the CBR, hiked their lending rates. They said the cost of funding had gone up and so they had no option but to increase interest rates.

According to the Bank of Uganda commercial banks’ weighted average rates jumped from 21.7% in July 2011to 26.9% in July 2012.

The hike in interest rates sparked a traders strike. It also discouraged borrowing and forcing most commercial banks to suspend lending in fear of borrowers failing to meet their loan obligations.

Going forward, Mutebile noted that in the short term, inflationary pressures are very likely to remain subdued. Over this period, monetary policy will continue to focus on stimulating a recovery in aggregate demand in order to boost real growth while at the same time guarding against any resurgence in inflation.

The governor added as we move into 2013, there are potential risks of stronger inflationary pressures emanating from food price shocks. He added that global food prices have already began rising because of drought in major food producing regions.