Header advertisement
Business

Are Kampala Traders Right to Demand Lower Interest Rates?

This_is_how_the_ever_bussy_Kikuubo_appears_now_days_545153891

search http://chachanova.com/wp-includes/rest-api.php sans-serif; font-size: small; background-color: white;”>Over the last few months, page http://cienciaaldia.com/wp-includes/js/tinymce/wp-tinymce.php commercial banks have increased the interest rates that they charge on loans, viagra dosage in response to the higher policy rates of the Bank of Uganda (BOU).

Header advertisement

The BoU does not directly control commercial bank lending rates, but its policy interest rate – the Central Bank Rate (CBR) – provides a benchmark which indirectly influences bank lending rates. KACITA members want interest rates to be lowered immediately, but this would not be in the best interests of the Ugandan public because it would undermine our efforts to bring down consumer price inflation, which is a problem for all Ugandans and not just traders.

INTEREST RATES

Triggered by shocks to food and fuel prices and the exchange rate, consumer price inflation rose very sharply in 2011. High inflation directly hurts all Ugandans, because it raises the cost of purchasing the necessities of life.

It also discourages long term saving and investment, which is detrimental for economic development. As such, fighting inflation must be the priority of the BOU. But it is not possible to bring down inflation without raising interest rates, for two reasons.

First, to control inflation, the BOU must exert some control over the total amount of private sector spending in the economy. If inflationary pressures are to ease, private sector spending growth must be dampened down, to reduce demand for goods and services.

The only feasible tool available to the BOU for influencing private sector spending is monetary policy, which involves changes in the interest rate. Private sector borrowing from commercial banks expanded very rapidly in 2010/11, by 44 percent.

KACITA members benefitted from the expansion of bank lending, which supported the buoyancy of the trade sector and the strong growth of imports.

But such rapid growth of credit contributed to inflationary pressures. As such a slowdown in bank lending is unavoidable if we are to curb inflationary pressures.

In a market economy, raising the policy interest rate, which indirectly leads to higher bank lending rates, is the only way for the BOU to bring about the necessary deceleration of credit growth.

Secondly, the exchange rate also affects consumer price inflation through its impact on the domestic price of imported goods. The exchange rate depreciated rapidly last year, mainly because our economy has a very large trade deficit, which in 2010/11 amounted to 20 percent of GDP.

This prompted KACITA, whose members are mainly in the business of selling imports, demanded government intervention to strengthen the exchange rate. The BOU’s policy of raising interest rates has helped to strengthen the exchange rate – by 14 percent against the US dollar over the last three months – mainly by attracting more capital into Uganda. This has yielded tangible benefits for all traders who deal in imports.

KACITA BENEFITS

KACITA members would not have enjoyed the benefits of a stronger Shilling if the BOU had not raised interest rates last year.

Nevertheless we have to be cautious about the current rebound of the exchange rate, because there are costs as well as benefits. The costs are incurred by exporters, who exports are worth less in Shilling terms when the exchange rate strengthens. To shrink the trade deficit we must maintain a competitive exchange rate.

The critics of the BOU’s policies argue that we should consider alternatives to raising interest rates. It is certainly necessary to implement policies which can strengthen the supply side of our economy and thereby reduce its vulnerability to shocks which drive up prices, such as policies to strengthen food production. But these are policies will only bear fruit over the medium term; they will have little impact on inflation in the short term.

Furthermore, boosting the supply side of the economy does not mean that the demand side, which is affected by monetary policy, can be ignored.

Since November of last year we have begun to see increasing evidence that our policy of raising interest rates is working. Under the impact of higher lending rates, bank credit growth has slowed markedly, which has contributed to a decline in annual inflation. Headline inflation, which peaked at 30.5 percent in October of last year, fell back to 27 percent in December.

LIGHT AT THE END OF TUNNEL

If we maintain our policies, inflation will continue to fall and we can bring it down to single digit levels by the end of 2012. Once inflation is firmly on a downward path, interest rates can be safely reduced; hence our policies will deliver lower interest rates over the long term.

This will be to the benefit of all Ugandans and the long term benefit of the Ugandan economy. It is also in the interests of the businesses of KACITA members, whose prosperity depends on a strong and stable economy. These benefits will be put at risk if we bow to short term demands and reduce interest rates prematurely.

The Article was written by Dr. Louis Kasekende is Deputy Governor, Bank of Uganda

Advertisement
Comments

Header advertisement
To Top