Banks' honeymoon coming to an end

| Friday June 11, 2010 00:00

 

Making abnormally massive profits should soon be over for Botswana's commercial banks, thanks to the Bank of Botswana's decision to adopt a low interest rate regime, analysts reckon.

Largely due to the high interest rate regime that has been in place for over a decade, banks in Botswana have been making super profits by comparison with their peers in the region.

But this has come at a high cost to borrowers and the central bank itself through interest expenses on Bank of Botswana Certificates (BoBCs).

A recent report by the IMF and the World Bank says BoB is enriching the already super rich banks through the issuance of its high yielding BoBCs while the banks themselves are impoverishing borrowers through the high lending rates.

However, BoB adopted a loose monetary policy last year that will not only boost the economy as it recovers from the recession but also cut the cost of monetary policy tools such as the BoBCs and interest income for the banks.

Despite cutting interest rates by over 500 basis points in 2009, BoB had to pay P1.6 billion in interest on BoBCs to banks last year, which contributed to the P4.1 billion losses the central bank incurred.

In response to a Business Week questionnaire, the Regional Head of Research (Africa) at Standard Chartered, Razia Khan, concurs that Botswana has higher interest rates than other countries in the region. However, Khan believes BoBCs are still the best instrument to mop up excess liquidity.

'Spreads are much lower than in peer African economies; for example, in Kenya, Nigeria or Zambia,' she says. Because the pula's pegging to the South African Rand largely determines the foreign exchange policy, BoBCs are the main monetary policy tool there is.

'Whether open market operations alone can deal with the inflation threat is a different issue, but BoBCs are adequate for sterilising liquidity,' Khan says.

Another banking sector economist says although interest rates have been very high, particularly in the period between 1999 and 2008, the situation is beginning to change because interest rates have dramatically changed.

'The policy of high interest rates has been very expensive (for BoB and Government), and BoBCs have therefore been a conduit for the transfer of resources to the holders of BoBCs, as the IMF says,' an the economist who does not want to be named.

'I wouldn't particularly point fingers at the banks because a major part of the blame lies with BoB which has been the driver of the high interest rate policy. The banks have largely taken advantage of the situation that the authorities presented them with. They are profit-maximising private companies; what else would you expect them to do?'

But the banks are also culpable because they have not passed the higher interest rates on to savers, he points out. 'The high interest rates have made borrowing expensive, and therefore restricted the ability of the private sector to borrow for investment purposes,' he says.

In a telephone interview, a treasurer with a leading commercial bank in Gaborone denied that banks have been making super profits from BoBCs, saying they have been passing on the high interest rates to depositors. 'Most of the funds we invest in BoBCs are excess liquidity which mostly comes from corporate depositors as individuals normally do not save in Botswana,' says the treasurer.

'These corporate depositors negotiate their own interest rates with banks. That's why we do not advertise them. Actually, our margins are usually as little as 50 basis points on these deposits from the BoBCs interest.'

The policy of high interest rates has been in place since the early 1990s. Its two main objectives were bringing down inflation and ensuring positive real interest rates for savers to encourage savings.

However, analysts say neither of these seem to have been achieved as there is no clear evidence that high interest rates have been successful in bringing down inflation, which has been relatively high (by regional standards) in Botswana.

Analysts argue that the policy has also failed to secure high interest rates for savers because savings rates have fallen even while interest rates, especially lending rates, have generally risen.

In the IMF and World Bank report, researchers say the dominance of BoBCs as the chief instrument in open market operations has also prevented further development of the financial sector.

Khan says the government needs to boost its private sector growth, which will in turn leave banks with more asset growth opportunities will rebalance their holdings of BoBCs accordingly.

'To boost longer-term development of the country and lessen reliance on diamonds (and the associated economic vulnerability that comes with being a mono-culture economy), Botswana needs to develop its private sector,' she says.  'To do this, Botswana can only benefit from deeper capital markets. There is a need to establish a benchmark for private sector issuance if it is not going to disadvantage future enterprise. 

'It is unrealistic to imagine that there are sustainable options outside of developing a domestic debt market. The recent sovereign crisis in Europe demonstrates the benefits of being able to rely on one's own resources through sustainable borrowing.'