The subject of high interest rates has generated intense debate recently. It is the general opinion that interest charged by the banks and other financial institutions is excessive.
The rationale for high interest rates
In Ghana, the average interest charged on loans is about 30% per annum which is high compared to other countries.
The reason proffered by banks in charging high interest is the high risk of default and also the fact that banks and other financial institutions secure funds for lending at relatively high rates.
However, it is an inconvertible fact that banks make generous returns on customers’ deposits which are loaned out at high interest.
The evidence for this could be seen from the wide disparity between interest rates on deposits and the interest rates on loans. It is also a fact that banks and other financial institutions always declare huge profits as borne out by their financial statements.
Attempts at curbing high interest rates in recent times.
Recently, the Minister of Trade and Industry and the President of the Association of Ghana Industries have spearheaded efforts at reducing interest rates.
It is a fact that high interest rates serve as a disincentive to investments and business growth. This is because, low interest rates enable businesses to borrow to finance production which in turn raises productivity. This creates a multiplier effect with its attendant spin offs in increased taxes, general economic well being and a high GDP.
Though the Revised Loans Recovery Act of 1918 mandates the court to cut down high interest rates, the courts have rarely applied this law except on some few occasions. The rationale being that loan agreements are freely entered into and must therefore be respected.
Inspite of all the pontificating on high interest rates and the need to reduce them drastically to facilitate business expansion, all attempts at curbing high interest rates have not yielded much fruit.
Components of charges in a loan agreement
Most loan agreements reveal a myriad of charges which reduce the quantum of the loan amount to be granted to a customer. Typical of the charges in a loan agreement include processing fees, arrangement fees, monitoring fees, penalties for late scheduled payments, fees for mortgage registration etc. These are levied in addition to the regular interest rates. In Ghana, the regular interest rates could be as high as 15% above the policy rate. Processing fees on loans could be as high as 4% or even 5% in the case of microfinance companies. Together with other component charges, interest rates levied on loans could be as high as 45% or more with respect to non-bank financial institutions.
The Kenya example
Kenya recently passed an amendment to its Banking Act which capped interest rates at not more than 4% above the policy rate which is presently 9%. This means that in Kenya, interest on loans cannot be more that 13%.
Arguments for and against curbing interest rates
The view is held that any unilateral action by the government or the financial regulatory authorities in curbing interest rates will be a sign of a resort to a controlled economy and a disincentive to investment.
The other view is that curbing high interest rates would be an interference with contractual obligations.
However, the point must be made that it is always advantageous to an economy to achieve high economic growth with its spin offs of high employment and increased taxes. This can be facilitated by low interest rates. It is therefore incumbent on the government to take all necessary measures to achieve lower interest rates.
A cue from the Kenya example.
The drastic action by the Parliament of Kenya to reduce interest rates though legislation may sound awkward in these days of free market economics.
However, it is imperative to keep in mind the danger of high interest rates which is a disincentive to investments and economic growth.
Taking a cue from the Kenya example, it is my recommendation that the government, through the financial regulatory authourities could take proactive measures to curb interest rates through the following measures.
As a first step, discretionary charges on loans could be streamlined.
I have always been at a loss to appreciate the rationale for the charging of processing fees on loans. This is because the cost to a borrower must always be the interest levied on the loan. Thus, a loan agreement could eliminate such charges as processing fees, arrangement fees, monitoring fees which in some cases are a rip off of customers. This should leave the acceptable charges on a loan as insurance and charges for registration of mortgages or other securities which are offered to secure the loan.
Though most banks and other financial institutions claim that they do not access much of their credit from the Central Bank, it is also a fact that the interest given on deposits is rather paltry, whether short term or long term.
It is the view of most watchers of the financial scene that the huge disparity in interest rates on deposits and loans in rather untenable.
Taking a cue from the Kenya example to stimulate economic growth, the government could adopt proactive measures in streamlining interest levied on loans.
It could stipulate that only the necessary charges should be levied on loans like charges for registration of mortgages and securities and insurance only rather than charges like processing fees, arrangement fees etc.
The government may also be bold to adopt the Kenya example by capping interest rates at a maximum of about 8% above the policy rate or cap interest rates at not more than 10% above the rate granted on deposits.
Alternatively, the government could provide lots of concessionary loans for lending to critical sectors like industry, construction, manufacturing etc through the banks. This would eventually force the banks to lower their interest rates.
Author: Joseph Akyeampong
The writer is a lawyer with specialisation in international business law.