Fingers crossed
Will a reduction in interest rates pull the market out of recession? Yasser Sobhi asks the experts
Last week, banks reduced their interest rates on deposits by between 0.5 and two percentage points, bringing them down to around six to eight per cent on short term deposits of less than six months. This step comes as a response to the recent Central Bank of Egypt (CBE) decisions aimed at increasing market liquidity and helping the economy emerge from more than three years of recession.
"CBE's expansionary monetary policy is actually becoming efficient," said Noor Nahawi, president and CEO of Le Caire BNP Paribas Bank. "Banks have suddenly discovered that they have excess liquidity and that there is no purpose in giving out 10 per cent to get more money."
Last November, the CBE reduced its lending and discount rate from 11 to 10 per cent. Considered as part of a new monetary policy announced by the CBE, the decision was well received by the market.
Early in May 2002, the CBE reduced the rate of bank reserve requirements from 15 to 14 per cent. Combined with shrinking loan growth, the expansionary policy served to increase banks' liquidity. Interbank rates dropped by more than a half in six months to around 3.5 per cent, while interest rates on treasury bonds dropped around two percentage points to five per cent on three-month and 5.75 per cent on six-month T-bonds. Nevertheless, deposits continued to flow due to a lack of interest in the capital market.
"The reduction in interest rates is a logical decision," said Khalil Nougeim, president and managing director of Cairo for Fund Management. "The market is highly liquid and there are large savings held up in the housing sector. The decrease in interest rates will help the market recover, but will not do much for the capital market, which needs a boost in investor confidence."
According to Nougeim, one of the main reasons behind the reduction in interest rates was the fear of dollarisation. Without an incentive and amidst an unstable foreign currency market, people tend to keep their money in dollars. However, helped by the fact that the interest rate on dollars stands at around one per cent, the CBE is working to restabilise the exchange market.
Interest rates on credit do not fall as fast as those on deposits, Nahawi said, although they are affected by the trend. But interest rates have not been the determining factor for the decline in loans. Bank credit officers have been reluctant to provide credit, amid several corruption cases being brought to court and increased scrutiny of their behaviour. Bankers are now under pressure not to give new credit without significant collateral.
The banking sector now faces a dilemma: on the one hand they do not want to expand credit at present due to the market recession, and on the other deposits are increasing at a much faster rate than loans.
So, is the reduction in interest rates the solution? CBE Governor Mahmoud Abul- Oyoun thinks it might not be enough. Speaking at a conference last month, he said, "We are concerned about the slowdown in loans. We will keep pressurising banks to refocus on their lending activities."
As a result of the newly adopted expansionary monetary policy, interbank rates have also dropped to around three to 3.5 per cent, down from around eight per cent last June. The interest rates the CBE pays within the new depository system to help banks manage their liquidity better have also dropped to the same interbank levels.
The effect of the interest rate reduction is not yet clear. Banking experts say that a significant change in the rates is needed to shift the behaviour of deposits and loans. Even then, they agree, it would take several months for the change to prove efficient.
