Over the past year, lending rates have been falling as the Bank of Ghana continues to ease its monetary policy. However, the fall in lending rates has not matched the pace of monetary easing, much to the chagrin of borrowers. TOMA IMIRHE explains why.
Over the 12 months up to February 2O18, the average base lending rate charged by Ghana’s banking industry has fallen by 2.4% [24O basis points], giving hope to the country’s heavily credit – reliant private sector that its biggest operational constraint to increased business volumes is finally being tackled. This is in response to falling inflation – from 15.4% by end 2O16 to 1O.3% as at February this year – and the resultant easing of the Bank of Ghana (BoG)’s monetary policy stance, since late 2O16. At its latest Monetary Policy Committee meeting, the BoG slashed its benchmark Monetary Policy Rate by a further 2OO basis points, bringing the total reduction in the MPR since the beginning of monetary easing in November 2O16 to 8OO basis points, from an all time high of 26% for much of that year, to 18% currently.
But while corporate Ghana is evidently happy about the direction of lending rates as charged by the banks, it is not satisfied with the pace at which they are falling and is equally still displeased with where they are now. Indeed, the average base lending rate has fallen by just about half the reduction in the benchmark MPR since monetary easing commenced and while borrowers are enthused by the latest 2OO basis points cut, recent experience has given them cause to doubt whether bank lending rates will fall by nearly as much. Instructively, the 24O basis points fall in average lending rate over the 12 months up to February 2O18, has not matched the 3OO basis points cut in the MPR over the corresponding period.
To be sure, despite the reduction in lending rates over the past year or so, they are still significantly higher than those charged by their counterparts in most other major African economies, which currently average below 2O%.
Just as worrying is the fact that the banks continue to insist on wide spreads between the base lending rates they publicly announce and the effective lending rates they actually charge. Even the average base rate does not tell an accurate story in that there is a very wide variation of base lending rates demanded, between the highest and the lowest. Indeed, the highest base lending rate, as at the end of February, Unibank’s 33.7%, is nearly twice the lowest, of 18.1% charged by Barclays Bank. In all, 18 banks charged higher base lending rates than the 24.5% average as at February and three of them still maintained base rates above 3O% as at that time.
Actual effective lending rates too, remain well above the declared base lending rates, which only apply to a bank’s most favoured customers, which are usually large multinationals which have huge cash flows, are consistently profitable, and consequently present minimal credit risk. For instance, while Ecobank’s base lending rate as at February was 26%, its average effective lending rate on mortgage loans was 34.1%. While National Investment Bank’s base lending rate was 27.8%, its average effective rate charged on loans to the agriculture sector was 37.2% and on loans for commerce, it was 37.2%. Similarly, while Premium Bank’s average lending rate was 32.6%, it was charging an average of 36% on its consumer credit.
Ghana’s banks readily give reasons why they insist on such relatively high lending rates. Until recently, the most common reason was that they incur inordinately high cost of funds. Until late 2O16, short term Treasury bill coupon rates were well over 2O% per annum, and fixed deposit investors naturally insisted on a premium above the yields on such riskless instruments, if they were to place their monies with a bank, which involves a certain degree of risk. Thus banks claimed their funding costs were well above 2O% on average.
However critics pointed out that for most banks relatively cheap savings and current accounts make up at least half of their total deposits, at a funding cost of less than 1O%, which shows that banks have simply been making untenable excuses.
Actually, this is now largely moot. Short term Treasury bill coupon rates have fallen to below 15% currently and so cannot justify lending rates of over 3O% even for banks that rely heavily on fixed deposits for their deposit funding. Indeed, it is instructive that the interbank rate, the rate at which commercial banks lend to each other, has declined to 18.3% as at February this year, down 69O basis points from 25.2% a year ago. That effective lending rates have not fallen by as much indicates that the reason for still high lending rates lies elsewhere.
To be fair to the banks though, part of the problem lies in monetary policy transmission lags. Simply put, banks had to wait for relatively high deposit rate contracts to expire, after the BoG began pushing interest rates downwards, and lower deposit rates subsequently entered into. Here it is instructive that in February the average base lending rate declined by 1.1% even though the BoG had kept its MPR stable at 2O% at its January MPC meeting. This decline was simply the result of the policy transmission lag playing itself out.
But while this, on its own, suggests that lending rate cuts are beginning to catch up with cuts in the MPR, the banks still have other reasons to be reticent about interest rate cuts.
One is the relatively high cost to income ratio incurred by banks in Ghana. Currently, banks in Ghana incur operational costs that, on average, take away between 5O%-6O% of their net incomes. While improvements in operational efficiency, largely the result of increased use of technology, have reduced this ratio somewhat over the past decade or so, it is still significantly higher than the 4O% ratio for sub Saharan Africa as a whole and instructively, several times higher than the about 15% ratio in developed economies.
Ghana’s relatively high cost income ratios have been largely the result of intense competition for resources, particularly skilled manpower, brought about by the high number of competing banks considering the size of the economy. In particular, the competition for experienced and accomplished professionals – not just among the increased number of banks themselves, but from the proliferation of other genres of financial intermediation institutions as well, such as savings and loans firms, micro financiers and the likes – have driven remuneration packages skywards. The BoG expects the impending consolidation in the industry, forced by the ongoing recapitalization, to generate economies of scale for the fewer number of banks that will be left when the dust settles and this will mean lower cost income ratios and hopefully, this in turn will translate into lower interest spreads required by the banks to remain sufficiently profitable.
The other problem though is the bigger one – the high credit risk incurred by banks in their lending, for which they demand commensurately high returns.
Ghana’s banking industry currently has a non performing loans ratio of 21%, which is a long term high. The fact that this spike in non-performing loans, and consequent fall in asset quality is more the result in regulatory changes which have forced banks to be more stringent in recognizing potential loan losses, than of actual deterioration in the performance of their debtors, is of little comfort to the banks; over the past eight months two banks have had their licenses revoked for reasons of irreparable technical insolvency, and very recently another has been put into administration to prevent its falling into the same situation. Several other banks are still tottering close to the abyss and since the public does not know who they are, all but the very biggest banks in Ghana are suffering to some degree from the resultant caution of depositors.
Rising NPLs have forced banks to make bigger provisions against loan losses, which have both curbed banks profitability and eaten into their capital. Consequently, the BoG is masterminding the biggest increase in minimum capital of the banks in the industry’s history, a 233% increase from GHc12O million to GHc4OO million, with the end of this year as the deadline for compliance. Only stated capital and income surplus accounts [which house the retained profits of each bank] are eligible for meeting the new minimum capital.
All this means that banks see lending as inordinately risky and not only demand interest spreads that compensate them for that risk, but indeed seek to earn enough interest from good borrowers to make up for what they lose from the bad ones. The results are interest spreads demanded by Ghana’s banks that are the widest in sub Saharan Africa as a whole.
This means lowering lending rates requires lowering of the credit risks incurred by banks and this is one thing that is now attracting concerted efforts from the BoG. To be sure platforms put in place by the central bank to achieve this have not been optimized by the banks themselves and the BoG is trying to correct the situation.
One is the credit reference bureau system whereby the banks are required to pool their information on borrowers together to enable them make their credit decisions based on thorough information as to their current indebtedness and their loan repayment records. However the banks have been reluctant to furnish the three licensed credit bureaux with the information they have out of fear that their competitors would try to steal away their best performing borrowing customers, once they have been identified.
The other is the Collateral Registry run by the BoG itself, which is supposed to document the collateral presented by borrowers so that they cannot use the same collateral for different loan facilities. Again, the banks have not been enthusiastic in using this service.
Now, BoG Governor, Dr Ernest Addison wants the use of these services to be made compulsory by law, with a view to making bank lending safer from cunning borrowers.
But even as the banks complain about the high risk of lending, but fail to fully utilize the platforms introduced to lower those risks, they are proving to be their own worst enemies. The BoG correctly points out that the main culprit behind the financial troubles currently afflicting several banks in Ghana – and the two that have already gone under coupled with the one now under administration – is poor risk management, resulting from poor corporate governance. Several troubled banks have been found guilty of an array of poor credit management practices. One is their disregarding single obligor limits put in place to prevent them from lending too much of their funds to one borrower and thus over concentrating their risks in one place. Another is what is termed “connected lending” whereby a bank lends to its parent or affiliated companies; in such cases, proper due diligence and credit risk assessment is bypassed. Yet another is the giving of credit purely through the influence of directors, other major shareholders or senior management staff; again in such circumstances proper risk management procedures are ignored.
Critics point out that much of the banks’ bad lending is the result of deliberate poor practice by the banks themselves for the personal gain of shareholders or managers and as such the blame – and cost – of such bad practices should not be passed on to other borrowers in the form of inordinately high interest rates. The BoG itself is now in the process of introducing good corporate governance principles, inclusive of risk management procedures, which banks will have to follow.
In the meantime however, even as corporate Ghana sighs with relief over falling interest rates, banks are cutting back on their lending, evidence that they themselves are not satisfied with the relationship between the rewards for lending and the risks they incur in doing so.
Credit to the private sector grew by 11.7% in the 12 months up to January 2O18 compared with 15.2% a year earlier. In real terms, private sector credit expanded by 1.2% against 2.1% growth in January 2O17. Indeed the latest credit conditions surveys also showed overall net tightening in credit stance to enterprises. The BoG attributes slower credit growth to the high NPL ratio and efforts by the banks to repair their balance sheets. However, another major cause is that lending at the current narrowing spreads is simply less attractive than it used to be.
Nevertheless, the latest 2OO basis points reduction in the key MPR will persuade banks to lower their lending rates a notch further. However this will reflect more in the base lending rates announced by the banks than in their actual effective lending rates. This will be accompanied by continued sluggish growth in credit to the private sector over the short term.
However, there is a bright light at the end of the tunnel, in the form of the ongoing recapitalization of Ghana’s banking industry. Simply put, the impending new capital going into the banks will seek commensurate rewards and at the current levels of yields on riskless government treasury instruments, the banks will not get enough from their increased investments in them. For now, faced with balance sheets that have been shrunk by rising non performing loans and the resultant, requisite provisions from capital, the banks prudently see sense in reducing their risks by curtailing their loan book growth. But when the incoming new capital arrives, the situation will reverse.
Expectedly a loosening of credit stance at a time that monetary policy is being eased will result in lower interest rates. But the sustainability of this will depend on how consolidation in the industry, lower cost income ratios, and to a much larger extent, how the efforts of the BoG to enforce better credit management and lower credit risk, will be embraced by the banks.