Demand for credit grows despite increase in interest rates

Kampala, Uganda | THE INDEPENDENT | Commercial banks approved a total of 2.8 trillion Shillings in loan amounts in the three months ending October 2021, which indicates growth from the 2.2 trillion Shillings approved in the quarter that ended July.

Similarly, the value of loan applications rose to 4.9 trillion Shillings in the quarter to October from 3.7 trillion Shillings in the quarter to July 2021. This improvement in the demand and supply reflects improved economic activity following the easing of the lockdown towards the end of the year, with both having declined in the earlier part of the year.

Commercial banks lending interest rates increased in the three months ending October 2021 relative to the previous quarter, due to partly renewed uncertainty over the impacts of measures relating to the COVID-19 pandemic, according to the Bank of Uganda.

The causes of the uncertainty on the part of the bankers included the expiry of the credit relief measures and the deterioration in asset quality. The average lending rate on the shilling-denominated loans rose to 19 percent, from the average of 17.6 per cent which was recorded for the quarter to July 2021.

In October alone, the interest rates averaged 19.7 percent while in July, the average was 16.3percent. The increase in the interest rate came as the lenders were getting anxious about the market as the relief measures guided by the Bank of Uganda came to an end.

For fear of accumulating non-performing assets or seeing payment defaults increase, the tendency was to increase the interest rates, to cater for the increase in the level of risk. When their asset quality decreases, banks must hold more capital to cover the related credit risk and book higher provisions to prepare for the expected losses.

In an economic crisis, asset quality is a key concern as many borrowers default on their loans and the volume of non-performing loans increases, according to Researchgate, a European social networking site for researchers and scientists. The increase in the cost of loans happened for all sectors, except for the manufacturing, transport and communications sectors.

A report by the Bank of Uganda shows that the electricity and water sector registered the highest increase of 7.1 percentage points in October when compared with the situation in July. Commercial banks asset quality declined, with the share of Non-Performing Loans (NPLs) to total loans rising to 5.4 per cent in September 2021 from 4.8 per cent in June 2021.

All sectors registered increases in the share of NPLs to total loans, except manufacturing and mining and quarrying, reflecting the adverse impact of pandemic related restrictive measures meant to mitigate the spread of the virus. The State of the Economy Report for December, however, there was increased demand for credit to the private sector in the three months to October.

“This indicates the effect of BOU’s accommodative monetary policy and the associated lower cost of borrowing since June 2020, as well as a gradual easing of the lockdown since July 2021,” says the BOU.

The report shows that year-on-year growth in private sector credit recovered to an average of 9.5 per cent, up from 7.9 per cent in the quarter to July 2021, excluding loans disbursed by Uganda Development Bank. When UDB loans are included, the average growth is 10.3 per cent.

The banking sector expects that credit growth will continue rising in the next few months this year, as the economy improves, based on eased liquidity conditions and gradual improvement in economic activity.

But this, like many aspects of the economy, will depend on how COVID-19 and its effects turn out to be.

“There are downside risks to the short-term outlook largely from the continued uncertainty due to the lingering effects of COVID-19 on economic activity and the expiry of BOU’s credit relief measures and deterioration in asset quality,” says the report.

However, if this short-term outlook is overcome, credit growth is likely to improve in line with projected economic recovery as the pandemic is contained and the economy fully reopens. Credit growth in the quarter to October 2021 was dominated by lending to the manufacturing sector, which accelerated from 8.5 per cent to almost 17 per cent in October.

Manufacturing accounted for 12.5 per cent of total outstanding credit. The trade sector, which has the second-biggest share of the loans outstanding, remains subdued, growing by an average of 1.2 per cent annually.

Lending to the personal and household sector averaged a high of 18.4 per cent, but this was a slight slowdown from the growth rate posted in July. It also retained the biggest share of outstanding loans at 18.5 per cent of the total.

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