The Central Bank will soon raise the cap imposed on interest rates offered on deposits by finance companies as the current interest rate ceiling has become irrelevant in the rising interest rate environment, Mirror Business learns.
At a meeting held in September between the Central Bank officials and the licensed finance company (LFC) officials, it was agreed to raise the cap on interest rates which now stands at 12.5 percent.
Nevertheless, the regulator has still not indicated by how many basis points the ceiling rate would be raised as officials are still studying the situation.
Currently the upper limit of finance company deposit interest rates are linked to quarterly weighted average yield of 364-day treasury bill on which an additional percentage points (between 3.0 to 5.5 percent) is charged based on the maturity period of the fixed deposit.
This upper limit is calculated by the Director Non-bank Supervision Unit of the Central Bank and is disseminated among the finance companies after the end of each quarter in order to ensure the uniformity of the rates offered by all LFCs. During the first 9-months, the 364-days treasury bill rate has increased by as much as 281 basis points in response to tightening in the monetary policy at three occasions during 2016. Since the LFCs are now unable to increase its fixed deposit rate above 12.5 percent, they are seeing flight of deposits to the banks as the latter is offering rates, above 12.5 percent.
Currently there are 46 LFCs with Rs.481 billion deposit portfolio among them as of end 2015. Based on assets, the LFCs accounted for Rs.915 billion or 6.7 percent of the total financial system in the country.
The maiden budget of the coalition government proposed to provide the finance company deposits with 100 percent Central Bank guarantee from the end of January 2016, but it never came to fruition as the banks warned the Finance Ministry against the proposal as it could create a flight of deposit from the banks to the finance companies. Many of such proposals included in the budget 2016 which are in favour of the LFCs such as banning of leasing by the banks, offering 15 percent interest rates for senior citizen deposits up to Rs.1.5 million via LFCs could not be implemented.
It was only last week Mirror Business reported that the government could discontinue the 15 percent interest rate scheme offered on senior citizen deposits in the forthcoming budget as it makes no sense to continue the scheme when the market interest rates have risen considerably during the course of the year. Nevertheless, analysts caution any delay in lifting the cap on interest rates could deepen the woes of some of the finance companies who already grapple with serious liquidity crises as the flight of deposits into banks could worsen their worries.
At the same time, a potential increase in LFCs’ deposit interest rate cap could intensify the competition for the banks in raising deposits as the conditions are already challenging for raising deposits.