The governor Bank of Uganda Prof Emanuel Tumusiime Mutebile has cautioned commercial banks against capping of interest rates, rather advising that they embrace various strategies of reducing their operation costs.
Currently the annual operation costs of banks stands at 11% which makes the final interest rate extremely high.
Speaking during the Annual Bankers’ Conference in Kampala Mutebile noted that although the annual demand for loans is growing at 17%, only 70% of these loans are approved due to skepticism within the banking sector.
Mutebile thus says bankers must embrace swift measures to cut operation costs including reducing on workers, new financial innovation, popularizing use of ATMs and other cost cutting means.
In the last one year, Bank of Uganda (BoU) has eased the CBR by 7 percentage points, whereas commercial bank interest rates have on average dropped by 4.71 percentage points.
BoU notes that this reduction in commercial bank lending rates is “marginally lower than” the CBR reduction. In essence, the banks are slowly responding.
Interest rates, on average are at 20.52 per cent – a spread of about 10 per cent from the current CBR.
As cheap money becomes scarce and borrowing becoming expensive, it is predicted that less capital that is financed by borrowing will flow into the market. When less funds flow into the market, it will dampen the rise in prices and reduce the possibility of the creation of market bubbles or deflate an existing one.
The higher cost of borrowing will increase the cost of production of goods and services. If businesses decide to pass on this higher cost to consumers, it leads to higher prices of goods and services. This increases the cost of living and may even contribute to inflationary pressures.
Also, the higher prices of goods and services may make exports less competitive in export destinations. Imported goods and services will be cheaper relative to domestically manufactured goods and services, which may make them more appealing to consumers.