His summit call was mainly based on the fact that factors such as the exchange rate, inflation and prime rate that affect the cost of lending rates have declined due to banking sector reforms. Therefore, the reforms addressed the elements of risk inherent in commercial bank lending and, as such, the Bank of Ghana (BoG) interest rate and policy rate differential should be reduced.
The Bank of Ghana’s (BoG) Monetary Policy Committee sets the prime rate, with which various commercial banks and other financial institutions also operate in Ghana. This affects the lending rates of commercial banks. It serves as a benchmark used to report the cost of funds, which should flow across the financial system as banks reflect it in transactions between themselves and with the general public.
The degree of transmission of the key rate depends on the degree of development and competition of the financial system. However, in Ghana, the transmission of the policy rate through the lending rates of individual banks has been extremely late (Kwakye, 2010).
To the extent that the BoG policy rate cut is a major determinant of commercial bank lending rates in Ghana, other facts also exert a significant influence on commercial bank lending rates. One of them is the minimum reserve of commercial banks.
The minimum reserve of commercial banks is the percentage of deposits that commercial banks must keep as a safeguard. The BoG also determines this, so every time the BoG makes an upward adjustment to the reserve of commercial banks, the amount of money available for banks to lend to their customer is reduced.
Professor Joshua Yindenaba Abor is a qualified accountant, financial economist and professor of finance with many years of expertise primarily in economic research and development finance. Abor (2004) argues that the minimum reserve requirement of commercial banks ultimately leads to an increase in interest rates.
It is safe to suggest that the impact of the BoG’s increase in the minimum capital required for commercial banks from GH Â¢ 120 million to GH Â¢ 400 million by the BoG is one of the reasons the lending rate is still raised.
The central premise of Mr. Yaw Osafo-Maafo’s appeal is the impact of the banking sector cleanup exercise. He believes the reform has reduced the risk elements of commercial bank lending. One indicator of this element of risk is the Non-Performing Loan Ratio (NPL), which measures a bank’s effectiveness in receiving repayments on its loans.
The BoG 2020 Banking Sector Report states that the NPL ratio was 18.4% at the end of 2018, it fell to 14.3% in 2019 due to the reforms. However, the NPL ratio at the end of 2020 started to rise again due to the actual non-collection of the credit.
Since this is a ratio, it is possible that the total amount of outstanding loans held by the bank will increase while the amount of non-performing loans in a bank’s loan portfolio remains unchanged, resulting in an increase. of the ratio.
In addition, the fact that the ratio of NPLs has decreased does not necessarily mean that the value of NPLs has decreased. Would you say that the period after the cleanup exercise is an achievable time frame to do a cost-benefit analysis of loan rate cuts? It is important to ask whether the cleaning up of the banking sector has really reduced the risk element of commercial bank lending.
The reforms came at a cost – some GH Â¢ 21 billion was spent by the government on cleanup. This is the reason for the introduction of a new 5% financial sector clean-up tax in the 2021 budget. ‘in 2024 and be reviewed thereafter.
This could be one of the reasons why commercial banks are slow to cut lending rates. Since the banks aim to make profit, they will pass the costs onto the borrowers, resulting in high lending rates and other fees.
Additionally, the cleanup also reduced the number of banks from thirty-four (34) to twenty-three (23). At the same time, three hundred and forty-seven (347) micro-finance institutions, fifteen (15) savings and credit institutions and eight (8) finance houses had their licenses revoked.
Kwakye (2010) argued that the degree of pass-through of the policy rate depends to a large extent on the degree of competition in the financial system. Therefore, the decline in the number of banks and financial institutions will have an impact on competition in the banking sector.
One possible implication of this decline in the number of banks and other financial institutions in Ghana is now that it prevents commercial banks from lowering their lending rates. The immediate impact of the reduction in the number of banking institutions imposes a constraint on the accessibility of credit, the interest rate and the rationing of credit (Maiti et al., 2020).
According to Boamah (2019), competition from commercial banks for customers is expected to result in a substantial drop in their lending rates. However, the opposite is true in the case of Ghana as Mr. Yaw Osafo Maafo recently stated.
The truth is that while increased competition in Ghana’s banking sector has not led to a low lending rate, less competition through the consolidation exercise will not lead to lower rates. loan even with the fall in the rate of monetary policy, not without the intervention of the powers that be.
In addition, traditional theory postulates that the forces of demand and supply are responsible for determining the interest rate on loanable funds. This implies that the interest rate is determined by the forces of supply and demand which are not monetary and not by monetary factors such as the policy rate. It does not attribute the responsibility for setting interest rates to either commercial banks or the central bank‘s MPR (Boamah, 2019; Tsiang, 1980).
Therefore, increased demand for capital credit or loans will cause banks to raise the rate to separate demand so that those who can afford it will opt for it (Abor & Biekpe, 2007; Diamond, 1984). Based on the normal demand and supply analysis, an increase in demand for credit from banks puts demand pressure on commercial banks to charge high rates. As a result, the spread between the BoG policy rate and the lending rate will tend to be high.
In addition, Ghanaian banks charge high lending rates due to the problem of information asymmetry. Commercial banks set these rates high in an attempt to offset the higher risks resulting from information asymmetry (Maiti et al., 2020). Likewise, (Asamoah & Adu, 2016) attribute the high interest rate in Ghana to financial market imperfections due to information asymmetry.
Research since the 1980s has consistently found the existence of information asymmetry in Ghana’s financial system (Stiglitz & Weiss (1981). They argue that it is responsible for inefficiencies in the financial sector. The majority of firms , customers and those seeking credit from commercial banks do not have the required information and are unaware of the fees charged by the central bank. Due to lack of information, they are unable to negotiate adequately. a rate cut and tend to take what commercial banks offer them.
In addition, the cause of the high level of commercial bank lending can be viewed from a speculative point of view. Sometimes banks will want to attract more investors into their business assets rather than government assets by raising their interest rates. This also explains why there is a gap between the lending rate of commercial banks and the prime rate of the central bank.
According to Lartey (2018), there is a positive relationship between average lending rates and monetary policy rates (MPRs) in Ghana. Although the result was that the RPM was significant in both the short and long term, the rate of adjustment was relatively slow in the short term. This implies that there are other factors, like those I indicated above, which are responsible for the upward adjustment of the commercial lending rate towards the BoG prime rate.
In addition, studies have also shown that developing countries tend to experience lower transmission of monetary policy shocks to bank lending rates (Mishra et al., 2014). According to the study just mentioned, countries with better institutional frameworks, more developed financial structures and less concentrated banking systems tend to have a stronger transmission of monetary policy shocks to bank lending rates. Developing versus developed economies perform poorly in all of these dimensions.
In short, since the BoG key rate has a major influence on the lending rate of commercial banks. This is not the only factor that determines the interest rate. The factors discussed above also play a vital role in the movement of the commercial bank lending rate in Ghana.
Something must therefore be done to meet these challenges. The exercise of cleaning up the sector has its merits. However, relying on commercial banks alone to reduce lending rates may not be enough, as financial institutions, like banks, tend to operate like a private, profit-oriented business. If we do nothing more against the rise in credit rates, in the end, it is we the citizens who suffer.
Contributor: Maxwell Ampong
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