Why the interest rates ‘madness’?

Naturally, borrowers should be smiling from ear to ear following developments in the money market this week that saw National Bank of Malawi (NBM) taking the lead in reducing its base lending rate from 40 percent to 36 percent.

This means that the price of money or interest rates has gone down; hence, borrowers will have some relief in terms of their monthly or periodic loan repayments. They can use the savings in other equally important avenues which were hitherto suffering.

In its announcement, National Bank justified the downward adjustment in the lending rates as a response to unfolding dynamics on the market, including nose-diving rates for treasury bills (T-bills) and improved liquidity.

Further to the above factors, National Bank said it considered that the marketing season for cash crops, notably tobacco, our major foreign exchange earner, is just around the corner; hence, any pressure on the kwacha to depreciate will be dampened, therefore no serious downside risk on the kwacha losing its value.

Beautiful reasons indeed. However, somehow I am not happy with the manner in which the market, especially the banking sector, has been behaving in the whole issue of managing the business of interest rates. From a distance, it is like someone is just employing “guess work”, as it were, to manipulate the whole market and indeed the economy at large.

By way of background, the Reserve Bank of Malawi (RBM) has maintained the bank rate—the rate at which commercial banks borrow money from the central bank as lender of last resort—at 25 percent since December 2012. That was when the central bank raised its benchmark rate from 21 percent.

Between then and now, commercial banks have been raising their base lending rates to as high as 43 percent, citing various reasons, including “liquidity squeeze” and a misbehaving kwacha value against major trading currencies. In fact, the rates have been on a see-saw, disturbing planning by businesses and individual borrowers besides creating uncertainty.

It is worth noting that not all commercial banks borrow money from the central bank. Many of these banks borrow from each other through what is called “inter-bank market” whose rate, as of Friday last week, was pegged at 19 percent. Now, that is even lower than the bank rate, which makes one wonder why banks should charge the prevailing high lending rates. If truth be told, it makes business sense for a bank to borrow from another at that rate than the bank rate or “Lombard” window.

In deciding interest rates, commercial banks also ensure that their lending rates are not cheaper than the yield on the 180-day T-bill simply to check against “entrepreneurs” who would borrow from banks and invest in T-bills to make a quick killing.

What is bothering me is that in January this year, commercial banks reacted to RBM’s introduction of the 27 percent “Lombard” borrowing window designed to help liquidity-stressed banks easily access funds. They saw “Lombard” as a defacto hike in interest rates.

In a way, the central bank too is playing a key role in the madness that is interest rates. It is like RBM is too obsessed with controlling inflation rate than creating sanity and certainty in the market.

I recall the other time when commercial banks raised interest rates because they were reacting to RBM’s charging of penalties for them to access its discount window. Naturally, banks as businesses passed on that cost to us the poor consumers of loans.

On the other hand, commercial banks, in my view, have been reacting more swiftly to transitory changes instead of waiting for permanent changes. The case in point is the current downward adjustment which has followed hot on the heels of the January upward adjustment of interest rates due to the “Lombard” facility.

Now, from the reaction of National Bank which alongside Standard Bank Malawi dictate or influence pricing on the market, it is clear that the fundamentals favoured a downward adjustment even in January 2014 and not what happened.

In economics, reacting to every cough and sneeze does not help matters. It just creates confusion and uncertainty as we are seeing. It is permanent changes that should trigger reactions.