Of margins on lending rates:

RESERVE Bank of Zimbabwe governor Dr John Mangudya last week announced an interest rate regime capping lending rates at 12 percent per annum, as part of measures to make credit more accessible to productive sectors of the economy.

UNDENIABLY, the cost of borrowing is an issue the domestic economy has grappled with consistently since dollarisation in 2009. Borrowers believe banks are fleecing them through punitive interest rates and service charges while banking institutions insist that their charges reflect the cost of funds and other inputs.

This is an argument that was often cited by Barclays Bank Zimbabwe Managing director Gorge Guvamatanga during his tenure as Bankers Association of Zimbabwe president.

The argument centred on the cost of securing funding, freight charges to import the cash and cost of distributing it among others.

Interest rate ceilings can be justified on the basis that financial institutions are making excessive profits by charging exorbitant interest rates to clients.

Without insinuating anything, banks profits grew from $112 million as at September 2016 to $181 million by end of December 2016.

Zimbabwe has 18 banks made up of 13 commercial banks, four building societies and one savings bank. One of the banks has its commercial and mortgage operations combined.

However, when all is said and done, there remains compelling need to balance between affordability of credit and viability of the banking operations to strike mutual benefit for all. This point of equilibrium requires constant dialogue.

In his 2017 monetary policy statement, Dr Mangudya noted that affordable credit was very important to enhance output and productivity.

Important to note is that capping interest rates is not new phenomenon neither is it a first with the RBZ.

Interest rate caps are also used by governments for political and economic reasons, most commonly to provide funding or credit support to a critical/specific industry or area of the economy.

The Reserve Bank contends that for the economy to flourish, affordable credit must be provided to both large and small scale businesses and individuals to enable them to invest in productive activities that increase jobs, exports and reduce poverty.

The central bank, like many borrowers and policy makers in Government, contends that the cost, accessibility and critical barriers to expanding financial reach and depth in Zimbabwe.

The RBZ said it was pleased to note that banking institutions have been working towards reduction in lending rates, but believes the rates are still relatively higher when other ancillary charges and default interest rates are applied.

At one point, the central bank expressed reservation over the level of interest rates, which at dollarisation hit highs of 35 percent to 55 percent and charges, which made up about 40 percent of most banking institutions annual incomes.

Over the last eight years or so, the central bank has tried to use moral suasion to bring down the cost of lending and bank charges to reasonable levels that support growth of production.

Last year, Dr Mangudya came up with an interest rate framework that capped banking lending rates at 18 percent per annum and set the minimum at 8 percent depending on risk.

Regrettably, it appears that deliberately or out of lack of proper systems of evaluation, banks largely use blanket rate regime.

Desperate for bank loans, most individuals and even corporates, pander to the whims of their banks and their onerous terms and take expensive loans, which in the end become difficult to honour, resulting in high rates of loan default.

In what, ostensibly, the RBZ feels could be an issue of information asymmetry, where banks may take advantage of lack of knowledge among borrowers, the bank has once again intervened to try and push interest lending rates further down.

To that end, the central bank has directed that starting from April 1, 2017, bank interest rates should not exceed 12 percent and charges should not exceed 3 percent including application fees, facility fees and administration fees.

This move by the central bank is laudable in so far as it is aimed at driving credit consumption for the purpose of driving production across sectors and other ancillary activities. Credit extension is the “oil” that lubricates the economy.

Ordinarily, banks should get a guiding interest level from the central bank’s accommodation rate, but this tool is not available due to the fact that the RBZ is presently not printing currency and there has no lender of last resort function.

As such, the central bank can only make monetary policy prescriptions.

Hopefully, the latest dose had been widely consulted on, a factor critical for wholesome buy in by market players.

This is because banks may view the latest policy directive as a direct attempt to influence pricing in the banking sector, which might result in reduced credit extension and in turn contradict the very noble intention targeted by the policy.

Admittedly, considering banks have to borrow externally for funds they use in on lending, it is also critical that banks be allowed to put interest margins that enable them to make a return.

As a bank executive himself, not long ago, one can only believe that Dr Mangudya gave this critical factor due regard.

But in an era where innovation should be an indispensable part of shrewd business acumen, banks are also expected to put emphasis on controlling accumulation of bad loans and growth of overheads, which have a huge bearing in price setting.

Some banks take advantage of information asymmetry to fleece borrowers and cover for their own inefficiencies.

Striking a balance between these factors namely cost of funds, overheads and level of non-performing loans give banks ample space to put reasonable margins that guarantee profitability without unnecessarily choking their clientele.