Home ›› 28 Oct 2022 ›› Front
Interest rate caps on lending and deposit – which came into effect in April 2020 – are hurting depositors and offering less support to Cottage, Micro, Small and Medium Enterprises (CMSME), while larger industries are reaping most benefits from this Bangladesh Bank move.
These are the findings of a central bank special report published on Thursday, titled “Impact Assessment of Interest Rate Caps and Potential Policy Options: Bangladesh Perspective.”
As per the assessment, the loan interest cap is one of the key reasons behind the USD rate hike in the domestic market, and without moving or removing this cap, pushing up the policy rate may not be effective in taming inflation.
The interest rate cap has been a blessing for the larger industries, which are receiving the lion’s share – nearly 60 per cent – of total private sector credit disbursement by scheduled banks, while disbursement to agriculture, CMSME and others have suffered a slight setback.
As per the report, evidence shows that the interest rate on larger industries are comparatively lower, which raises concerns that imposing a cap may be benefiting the rich more than the small and medium borrowers.
Following the global trend of historically high inflation rate and recent price hike of fuel oils in our domestic market, further tightening of monetary policy may be required in the coming months.
Finally, fixing the interest rate is not a right approach, as it affects market mechanisms and restrains effectiveness of the central bank’s monetary policy for discharging its role of controlling inflation, read the Bangladesh Bank report.
In the latest Monetary Policy Statement for FY23, the central bank already gave a signal to tighten the monetary policy stance by hiking the repo rate, which was later increased from 5 per cent to 5.75 per cent.
The Bangladesh Bank capped interest rates of lending at 9 per cent and deposit at 6 per cent since April 2020. Later, the rate of interest on deposits was adjusted to three months’ average inflation rate.
According to Bangladesh Bureau of Statistics (BBS) data, the inflation rate stood at 9.52 per cent and 9.1 per cent respectively in August and September this year, which was the highest in a decade. Besides, the weighted average deposit interest was 4 per cent in August.
Interest cap hurts depositors
Before the central bank imposed the interest caps, the average interest rate on deposits was significantly higher, hovering at 9.61 per cent, and the figure dipped to 7.43 per cent after the cap was imposed.
The average growth of deposits during the non-cap period was lower, standing at 10.38 per cents. This figure rose to around 11.52 per cent in the post-cap period. This indicates that interest rate is not the only factor for deposit growth.
It is notable that the average deposit rate in real terms remained negative both prior to and after the imposition of caps, though the number of depositors suffering from the negative return has significantly increased after the imposition of caps.
USD rate hike a side effect
The interest cap is one of the major causes of the USD rate hike. Currently, the negative real interest rate on deposits and relatively low lending rate are not only causing the domestic demand to go up, but also helping to accelerate the demand for imports as well.
As a result, imports payments have risen to a historically high level and exerted an unusually high pressure on BDT against the USD.
The deferred payment of import bills and supply chain disruption due to the Covid crisis, and later on, the Russia-Ukraine conflict were also culpable for this unusually high growth of imports.
CMSMEs get less support
Sector-wise interest rate data shows that compared to Agriculture and CMSME sectors, larger industries are enjoying lower lending rates after the cap was imposed, compared to the pre-cap period.
The government had planned to boost investment and employment opportunities in the industrial sector by capping the loan interest rate, but the reality is quite different.
The impact of interest rate restrictions on borrowers may be asymmetric. This issue will hamper the broad objectives of the interest rate cap. Therefore, the central bank needs to be vigilant about not only the quality of the loans, but also the quality of the borrowers.
No impact on NPL reduction
There is an inverse relationship between the real private investments and the real lending rate. Meanwhile, the amount of non-performing loans is connected with the rise of interest rates.
In the case of Bangladesh, though banks are charging a lower interest rate, they are enjoying profits at the cost of lower deposit rate for the savers. The non-performing loans also came down compared with the earlier periods.
High interest on loans and advances were also considered one of the root causes of soaring non-performing loans (NPLs) in the banking system.
The central bank assessment is not supported by data on defaulted loans. According to central bank data, the amount of NPLs in the banking sector was Tk 88,779 crore at the end of 2020, which increased to Tk 1,25,257 crore at the end of June this year.
