Business News of 2014-02-06

Cedi depreciation: Increase the prime rate to 17% - Razia Khan

Ahead of the central bank’s Monetary Policy Committee (MPC) meeting this week, the head of research at Standard Chartered Bank, Ms Razia Khan, has proposed a raise in the prime rate by 100 basis points (bps), which is one per cent, to 17 per cent.
The call comes at a time when the committee is expected to meet over the depreciation of the cedi among many other matters relating to monetary policy in the country.
The weak strength of the cedi against the major foreign currencies, particularly the US dollar, the British Pound Sterling and the Euro, has caused a lot of anxiety among businesses in the economy.
The prime rate is the rate at which the central bank lends money to the commercial banks in the country. The advice, no matter how positively intended, is expected to anger the private sector which has been complaining about the prevailing interest rates regime in the country.
Usually, the commercial use of the prime rate is one of the basis for the determination of their base rates and it is expected that once the prime rate rises, they may be forced to push the burden on those who borrow from them to avoid incurring any losses.
Explaining her position, Ms Khan said “even if the assumption is that inflation is driven primarily by one-offs, utility and fuel subsidy adjustment – as the Bank of Ghana has suggested - and that these one-offs may well prove to be temporary given the weakness of demand in Ghana - in our view, tightening now would still be the correct thing to do.”
She said first, with inflation accelerating to 13.5 per cent year on year (y/y) in December, and at risk of rising further, policy had become a lot more accommodative in real terms.
“Tightening by 100 bps now would arguably offset only partially some of the rise in inflation seen since the last rate hike,” Ms Khan said. In real terms, she said the policy remained accommodative – especially taking the magnitude of the fiscal deficit into account.
Weak cedi
On the weakness of the local currency, she said the “Cedi weakness poses additional risks to inflation, even if growth is judged to be relatively subdued”.
Against this background, she further argued that a rate hike would send a strong message about the Bank of Ghana’s commitment to price stability.
“While rate tightening on its own is probably not going to be sufficient to single-handedly restore stability to the FX market – it would nonetheless be an important complement to other efforts by the authorities to raise the attractiveness of cedi-denominated assets”, she said.
In the absence of any tightening, the risk is that the announcement of other measures aimed at stabilising the cedi would be sub-optimal.
According to the head of research at Stanchart, should the Bank of Ghana fail to tighten further now, and should the Ghana cedi remain under pressure, the risk was that inflation might become more generalised, and the bank would have to tighten even more aggressively further out.
“This would raise the cost of domestic debt service in Ghana significantly, potentially crowding out other spending, and weakening growth. For Ghana, this is not an option,” she said.
Ms Khan said the growth trade-off from a modest tightening now was far less severe than an aggressive tightening later, which might put at risk government spending.
“Should inflation in fact improve over the coming months, then there is nothing to stop the Bank of Ghana from reversing any rate hike further out, ”she said, adding that “for now though, inflation is accelerating, and we expect to see a policy response.”
Source: graphic.com
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