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Martin Tarusenga
RBZ must require banks to disclose the interest rates that they charge upfront, and to declare to borrowers in writing that they are compliant with any interest rates set by the RBZ.
The Mid-term Monetary Policy Statement (MPS) of July 2015, issued by the Reserve Bank of Zimbabwe (RBZ) brought hope for those economically savvy borrowers, when it ushered limits on interest rates that can be charged by banks on loans advanced.
The MPS however may not have gone far enough to achieve its stated objectives of improving on “. . . non-performing loans (NPLs), limited circulation of liquidity, low consumer and business confidence, and lack of competitiveness besetting both the financial sector and the economy at large . . . ” and growing “ . . . the economy by a minimum of 5 percent per annum”.
The RBZ set limits on interest rates chargeable to bank loans issued to a) the Productive sectors; b) for Housing projects, and c) for Consumptive purposes.
Within the Productive sector category, interest rate limits were set at 6 percent to 10 percent p/a, at 10 percent to 12 percent p/a and at 12 percent to 18 percent, respectively for three sub categories referred to as “Prime Borrowers with Low Credit Risk”, “Borrowers with Moderate Credit Risk” and “Borrowers with High Credit Risk”.
The MPS is not explicit on the credit risk measure or standard engaged in coming up with these Productive sector categories.
Interest rate limits for loans issued for housing projects were set at 8 percent to 16 percent p/a, while those for Consumptive purposes were set at 10 percent to 18 percent p/a. These interest rate limits were agreed upon between the Bankers Association of Zimbabwe and the RBZ — consumers of bank services including borrowers and bank depositors, do not seem to have been consulted on this issue. While the limits are most welcome, the MPS does not set out the rationale or premise for these limits in particular, and not others — leaving that risk of omitting other key considerations necessary in deriving such limits.
To illustrate the potential deficiencies with the current MPS regarding this policy on interest rates, subscribers to pensions and insurance services primarily seeking to establish whether they were entitled correctly from their pension and insurance contracts, have occasionally sought to establish the quantum of interest rates charged on bank loans they took out — this often as an after-thought.
Invariably, these consumers of financial services have visibly been startled and worried, about several issues, not least that the loan amount they took out would not be reducing despite the regular repayments they made, while the interest charges in absolute dollar terms, essentially mop up any regular repayments made.
This has typically made the loan a perpetual obligation to the consumer, putting any collateral offered to the bank at risk.
An assessment of the interest rates charged by banks in question reveals that the interest charges are on a simple interest basis (interest charged does not attract further interest charges); and that interest is charged in absolute dollar terms on a monthly basis, at rates which translate to those charted in the diagram below.
To illustrate the operation of these loans, two representative loans issued by two different banks (Bank A and Bank B), to two borrowers have been used for this discussion — the actual identities have not been used.
The borrower is issued with a loan schedule tracking the principal amount loaned, monthly interest charges in absolute dollar terms, repayments made by the borrower or credits to the account, monthly bank charges in absolute dollar terms, how the credits were applied between principal amount and interest repayments.
From this schedule the average borrower cannot tell the level of interest rate charged, as the interest is charged in absolute dollar terms.
They can only begin to suspect irregularities after the loan has been operating for some time, when the Principal amount is not reducing, and when all the repayments made go to paying interest — such as happened with the borrowers under discussion.
Bank A charged interest rates between 40 percent and 55 percent, for the period between October 2011 and October 2012, then reduced the interest rates to about 20 percent for the period between October 2012 and March 2013, before gradually increasing the charges to 30 percent over the period up to January 2015. The loan amount issued was $17 000.
Bank B charged interest rates in steps of steep hikes in one period, and a reduction in the next, each hike being significantly higher than the previous, while each reduction was of about the same magnitude — as shown in the chart above.
For instance the first interest rate hike landed at 23 percent in August 2012, falling to 4 percent in September 2012, the second hike rising to 40 percent in December 2012, reducing to 9 percent in March 2013, then up to 53 percent in April 2013 — right up to 69 percent in December 2013 when this bank began reducing interest charges gradually to 30 percent. The loan amount was $6 000.
With interest rates at this level, these borrowers ended up repaying only the interest payments, whenever they could, and never the principal amount. Quite a few borrowers end up in this trap. The banks of course foreclose and grab what they can, or classify them as non-performing loans (NPLs).
The interest rates charged by the two banks are significantly different, suggesting a total lack of public information on practices and charges used by banks in Zimbabwe, indiscipline among banks and hence a lack of competition.
With adequate public information, borrowers would gravitate to the cheapest banks, and such differences would narrow significantly.
As already intimated in this discussion, the MPS interest rate limits do help, especially as the MPS requires the limits to apply retrospectively.
The limits do not however help those borrowers without an understanding of the contents of monetary policy statements, and borrowers who cannot evaluate the interest rate charged on the loan they took out.
In these circumstances it is doubtful banks would be honest to the less financially savvy borrowers considering their past. The RBZ must require banks to disclose the interest rates that they charge upfront, and to declare to borrowers in writing that they are compliant with any interest rates set by the RBZ.
In tandem to the above disclosure requirements, the RBZ must ensure that all key considerations are appropriately taken into account when banks come up with interest rates that they will charge borrowers, not least typical commercial banking loan pricing principles and practices, and the need to comply with the in duplum rule.
The factors primarily considered in loan pricing are the cost of funds to the bank, administrative costs, risk of default, capital requirements, margins for profit and the need to price the loan below limits that are not considered usurious.
Usury is generally defined as lending money at an exorbitant interest rate. The interest rate is an unconscionable rate or amount of interest, typically in excess of a socially acceptable rate and/or legal rate charged to a borrower for the use of money.
Progressive societies and their Governments have imposed usury laws, subject to regular review, to protect borrowers and to ensure that the much needed financial services manifested in borrowing and lending are not inhibited. State usury laws specify maximum legal interest rates at which loans can be made.
The in duplum rule states that interest, however regarded, stops to run once interest accumulated equals the amount of capital borrowed or outstanding.
Martin Tarusenga is General Manager of Zimbabwe Pensions & Insurance Rights, email, [email protected]; telephone; +263 (0)4 797020; Mobile; +263 (0)772 889 716. Opinions expressed herein are those of the author and do not represent those of the organisations that the author represent
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