Business News of 2013-12-31

Comment: The role of interest rates in driving national economic prosperity

According to Pandit (2010), “we cannot live without the financial system, but we do not have to accept its excesses.” In my mind, I shudder to think that a banking ombudsman is needed to clamp down on the sluggish response between inflation, the prime rate and the lending rate in Ghana.
Something extraordinary is happening in Ghana. Jomo, my young entrepreneur friend, tells me that he has just been offered a loan by one of the banks on the high streets of Accra. The borrowing rate (cost of funds), he whispered, is higher than the cost of living (inflation).Sshh, it’s a miracle; things work differently here. In Ghana, we live by faith. “I am off to attend a conference on entrepreneurship,” my good friend whispered and left me to conjure my own faith.
There is an overwhelming body of evidence to suggest that there exists an inverse relationship between interest rates and economic growth. Economists, for once, agree that high and increasing interest rates (cost of funds) decrease overall Gross Domestic Product, thus retarding growth. Earlier evidence of these models include Mckinnon-Shaw (1973).
Indeed, ever since civilisation erupted, the crucial role of money and the associated cost of obtaining it had been recognised. Without doubt, every nation in the world today still lay tremendous emphasis on money by stressing the need for raising the levels of investment and entrepreneurship in relation to output, if only to address poverty among her people.
One important trend in the development process, which has remained consistent since civilisation, is that all developed nations are industrialised. Industrialisation is linked with heavy investments and capital accumulation financed by money and, indeed, through the banking system. Therefore, rapid and sustainable economic growth is a necessary condition for economic development, only propelled by her banking system.
This is where I pause for a thought! Ghana has been touted as the gateway to Africa. Indeed so many acronyms have been used to describe her growth process lately; including her desire for a PPP (private-public partnership) to augment her growth process; and her move to a middle-income status.
A myriad of conferences on entrepreneurship and banking are being held across the capital and, indeed, in our universities daily, but they fail to address the high cost of capital; and of course our own Institute of Bankers, Ghana, has a glossy syllabus that fails to address the significance of low-lending rates.
The Bank of Ghana, through the Monetary Policy Committee, quoted its interest rates at 19.54 per cent; compared with Nigeria’s 12 per cent and the UK’s 0.5 per cent. Our country’s rate of inflation is quoted widely as 10 per cent. Yet the annualised premium rate (the APR), which reveals actual lending rates in our banking sector, indicates that the average base rate charged on borrowing by enterprises ranged between 27.5 per cent and 38 per cent.
Microfinance institutions charge 2 per cent per month, depending on type and location. It is, therefore, disheartening to note that our entrepreneurs such as Jomo borrow at negative interest rates because their cost of borrowing is higher than their actual cost of living. Yes, this is where one needs faith to live and yet be friends with the banking system. It is important in addressing policies that as a people, “we cannot live without the financial system, but we do not have to accept its excesses.” Sadly, there are a record number of bankruptcies and repossessions pending in our courts.
In Ghana’s quest for growth and for a sustained level in her middle-income status, it is important for policies to recognise that entrepreneurs and local investors in Chorkor, Kokompe and Suame will always shy away from undertaking projects associated with high-borrowing costs. By implication, even though a certain level of interest rate and inflation may be considered important, the need to keep these rates low and manageable would be welcome if only to propel business confidence and economic activities.
The challenge facing the Ghanaian banking sector is how to keep lower interest rates pegged at a single digit, at least below the rate of inflation at consistent levels. As a policy, first the Bank of Ghana needs to take a bold leap by reducing its prime rate to a single digit.
This would compel commercial banks not only to source their funds from within, but they would reduce their lending rates, allowing for lags and sluggish adjustments. In addition to this initiative, if we permit the market to freely float, other priority sectors such as agriculture must be protected so as to avoid the Dutch disease.
The albatross of high and punitive rates currently on the neck of entrepreneurs such as Jomo, my good friend, farmers and fishermen up and down the country would forever be removed.
For now, the banking system in Ghana is weak and can best be described as an inhibitor of economic growth and prosperity. Banks are only in business to reap windfall profits for as long as the sizes of their balance sheets continue to expand. It begs belief to note that the total assets of all banks in Ghana increased by 35.2 per cent in October 2010, while total deposits rose by 37.2 per cent in the same period (see BOG Reports).
Poverty alleviation, economic growth and a nation’s prosperity are highly dependent on the financial decisions of banks and the entire financial system.
To this extent, the overall objective of the banking system must be designed to meet the nation’s broad objective of a stable and equitable system. In the end, while friends like Jomo are a good source of inspiration, I am of the opinion that their destination could have been reached much earlier without recourse to the courts system. For now though, I need a little more faith and a bank that would like to say yes.
By: Dr Kwame Adjei