If everybody believes rates must go up, they will
A number of signals indicate the central bank has set its sights on gradually raising interest rates, possibly by as much as two percentage points, over the next two and a half years. After that, and from the current perspective, it is purely speculative what will happen a further two years on.
The first signal I picked up that we are entering a rising trajectory is when local banks start offering finance deals below prime. With prime at 9.5%, offering deals at prime less 1.5%, it is crystal clear commercial banks expect interest rates to go up, and go up significantly. 1.5 as a percentage of 9.5 is simply too large a chunk for any bank to forfeit on future deals. And when financing deals are stretched over 60 months, it gives an idea of the banks’ views of the interest rate cycle, but it must be acknowledged, longer financing terms also provide banks some relief to recoup some of the interest forfeited over the first part of such a deal.
A second strong signal came from the financial services (excluding banks) regulator, when it warned that Private Sector Credit Extension has reached alarming levels as measure monthly compared to the same month a year ago. This week the regulator was very concerned because the monthly increase has almost reached 16%. I agree that this is a significant indicator of growth in national debt, but it must also be remembered the economy is growing at a nominal rate, faster than this. The long-term mean for Namibian Private Sector Credit Extension lies somewhere between 13% and 14% but it is not unprecedented for this figure to have gone as high as 19% in the past, and briefly, for only one month some years back, to 21%.
It would be naive to think the Bank of Namibia applies its interest rate policy in a vacuum. Certainly the monetary policy committee must take into consideration conditions in our close neighbours most notably Botswana and South Africa otherwise the differential may grow unmanageable, and soon we find ourselves captured in a minor regional carry trade. This is always a consideration for local liquidity where it is the norm that Namibian rates (most of the time) must be marginally higher than SA rates to ensure sufficient local liquidity.
But the local market is not nearly as dependant on South African capital as twenty years ago and I believe today there is much room to experiment more freely with divergent interest rates. After all, the government’s TIPEEG programme of the previous three years, and the continuation of a very liberal budget regime, demands a nominal growth rate substantially above credit growth for the private sector. These are not very complicated economics, the only piece of the puzzle that must be found, is how to continue growing the local capital market, without causing an interest rate backlash in Namibia.
A third signal coming from the public sector is the insistence that inflation must be curbed by reducing liquidity. As most analysts know, this simple presumption only holds true on paper. In reality, a weak currency and deteriorating Terms of Trade, to which we are certainly prone, play a much bigger role in domestics inflation, than new credit. And when I look at the composition of new private sector credit, it stands out fairly clearly that the bulk has been taken up by commercial enterprises. Again, to simplify the view, this is usually an indication of improved future expectations for robust growth.
I agree that inflation is a threat. But it is only one of a range of factors that must be considered to determine the interest rate cycle. Raising interest rates too fast restricts companies’ ability to adjust, and it puts an additional burden on private households. Of course, it is nirvana for the banks, and it improves the lot of older people who live off fixed income investments, but it also dampens growth in general.
I have this faint suspicion that we in Namibia are being penalised for the extravagances and the ineptitude of the South African government. But I do not necessarily see the same conditions in Namibia. After all, our sovereign credit rating has improved and the outlook for other bond issuers is positive. Quite the opposite than in South Africa where their sovereign rating is now just one notch above junk.
Finally, if every person responsible to contribute to monetary policy believes indebtedness and inflation are serious threats, then it is inevitable that they will raise rates. I personally think it is too soon. There are several other tools in the monetary toolbox but for that to work, the central bank needs the support of the commercial banks, and that is a difficult wicket to take out.