This week, the chief economist at the Reserve Bank Dr Monde Mnyande made it clear that analysts hoping for further rate cuts on the back of weaker retail sales and a strong rand needed to adjust their expectations.
Mnyande argued that as the SARB’s leading economic indicator is showing a stronger economy for the first two quarters of this year, further monetary stimulation in the form of interest rate cuts are not necessary.
He argued that if the Bank cuts interest rates too aggressively now, it may then have to increase interest rates sooner rather than later in the interest-rate cycle. The Reserve Bank would rather have an interest rate that does not fluctuate excessively, allowing people to make better long-term projections about their finances. He also pointed out that borrowers are not the only people in the country and that the needs of the savers have to be taken into account.
Currently the real interest rate — the Reserve Bank’s repo rate less the inflation rate — is at 0,74%; if the Bank cuts the interest rate further we run a very high risk of negative real interest rates, which would mean that savers are effectively subsidising borrowers.
Mnyande also explained why the prime interest rate determined by the banks is not relevant to the interest-rate debate. The banks have come under heavy criticism they are keeping interest rates high by charging a prime interest rate of 350 basis points above the repo rate (the rate at which the banks borrow from the Reserve Bank). Mnyande said banks do not actually lend at the prime interest rate but rather price each loan based on risk, administration costs and funding costs at the time. The loan is benchmarked against the prime interest rate so that it is easier for customers to make comparisons across the various banks. If the rate between the prime interest rate and the repo rate was reduced to 300 basis points, that would mean that depositors would see a 50bps drop in their interest rates. And for borrowers, all new loans would simply be re-priced by 50bps. The banks would still lend at a rate that made financial sense to them, irrespective of what the relationship was between the repo rate and the prime interest rate.
A good example of how banks price is to compare the boom lending times of between 2005 and 2008, compared to today. Five years ago banks were offering home loans at 2% below prime. Today the best you can hope for is 1% below prime as the risks and costs of funding have risen dramatically.
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