Indexed interest affects borrowers
20 February, 2014
Indexed interest affects borrowers
The recent increase of the monetary policy rate by 0.25% means that the price on credits will equally increase, but the problem is greater for outstanding loans.
The point is that Georgian commercial banks exercise the indexed interest rate tied to the monetary policy rate defined by the central bank. This mechanism allows commercial banks to vary their interest rates fixed on all credits, including already disbursed loans, on par with monetary policy rate variations. Though, once National Bank of
Georgia increased its refinancing rate or monetary policy rate from 3.75 to 4% on 12 February, borrowers have to pay 0.25% more.
The refinancing rate growth-related extra payment aggravates the losses borrowers had already suffered due to 4.5% depreciation of the Lari against the US dollar by the end of 2013. However, while the currency depreciation affected borrowers who took loans in USD, which comes to roughly 70% of the total loan portfolio, the monetary policy rate change affects all borrowers alike.
In fact, all banks note the presumable interest rate change terms in their contracts with borrowers, but borrowers have no choice: all commercial banks operating in Georgia offer almost identical contract terms that without exception include this indexed interest rate.
Georgia is not a special case. The indexed interest rate practice is global, but Georgian analysts believe this mechanism is not justified in a country like Georgia with low incomes and a low level of awareness of potential clients in financial matters.
The NBG introduced the indexed interest around two years ago to protect banks from losses when the policy rate changes, but this left consumers unprotected. Besides, the monetary policy rate is as low as 0.25% and 1% in the US and Europe respectively, and very stable - it did not change for years - while in Georgia it is high and frequently changes.
The refinancing rate hit 10% in September of 2008, and had decreased to 5% by the fall 2009. However, then it rose again to 8% in the first half of 2011, and has diminished since summer 2011, through 2012 and 2013 to 3.75%.
Lia Eliava, a financial analyst, does not rule out that the monetary policy rate may go high again. The high and unstable refinancing rate leaves Georgian consumers vulnerable to unforeseen expenses on loans.
“I do not rule out that the NBG will be increasing the policy rate gradually, maybe to around 7% again, and the borrowers who could not understand the contract terms will be facing reality and paying higher rates,” Eliava said in an interview with Georgian Journal. “The indexed interest rate is applicable to the developed west, where the consumer is more literate in financial affairs and well-off, but in Georgia where the consumer is poor and illiterate in financing, and incomes are not stable, it is completely unjustified.”
On the other hand, Eliava disapproves of lowering the refinancing rate against the backdrop of the acute deflation in the country and depreciation of the national currency.
Normally, the NBG strengthens monetary policy when inflation risks are aggravated. The targeted inflation rate and GDP growth stand at 3.2% and 5% this year, respectively. And although the stagnating economy recovered by the end of 2013, GDP growth averaged to 3.1% instead of the targeted 6% and the year ended with deflation of -0.1%.
“To fight the acute deflation we witness now, the refinancing rate should get milder, to supply the economy with more money to boost economic activity,” Eliava said. “However, the NBG strengthened this indicator - that makes credits more expensive and pumps money off the economy.
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