‘Gentlemanly Agreement’ On Interest Rate Suspended: Bankers’ Association

July 13, 2020 | Investopaper

Commercial banks will now be able to set interest rates on deposits independently. The way has been opened for the banks after the Bankers Association’s earlier ‘gentle agreement’ to maintain uniformity in interest rates was scrapped. The Association withdrew the agreement, saying there was sufficient liquidity in the financial system.

Two years ago, banks agreed not to raise interest rates on deposits arbitrarily. At that time, there was a liquidity crunch in the financial system. Due to this, the interest rate on fixed deposits had reached up to 13 percent. At the same time, the Bankers’ Association had called for a “gentlemanly agreement” to curb high interest rates. Since then, the agreemnt’ has been broken once or twice. However, at the request of the Ministry of Finance and NRB, the agreement was reached again.

As per the Bankers’ Association, the banks are now independent in setting interest rates from the new fiscal year 2077/78. However, even though the banks can set interest rates on deposits independently, they would not be allowed to lower rate below the rate of inflation.

Interest Rate

The association had last agreed to cut interest rates by one percentage point last Chaitra. Banks have been offering 7 percent interest on institutional term deposits, 7.1 percent on renewal of institutional deposits and 8.25 percent on individual fixed deposits with effect from Baisakh 1. At this interest rate, banks can increase the interest rate by 1 percent for individuals and 0.5 percent for individuals. Likewise, the banks is paying the Individuals a minimum of 5.5 percent interest on savings deposits since Baisakh. After the NRB reduced the bank rate, the association adjusted with it.

Inflation

As of last Baisakh, the average inflation rate was 6.45 percent. It is more than 6 percent in all the months of the current fiscal year except 2 months. This means that according to the decision of the Bankers’ Association, banks will not be allowed to reduce the interest rate on fixed deposits to less than 6.5 percent next year.

NRB aims to keep the inflation rate within 6 percent in the current fiscal year. Similarly, the Ministry of Finance has directed the NRB to manage the currency to maintain the inflation rate within 7 percent in the coming fiscal year.

When interest rates on deposits are low, savings are discouraged. Decreasing savings affects capital formation. Money stops coming into the financial system. When the general public has a lot of money in cash, they are more likely to spend in unproductive areas. Experts suggest that the NRB should make special policy arrangements in the forthcoming monetary policy to prevent this from happening.

Deposit And Loan

As of Baisakh end, the average interest rate on deposits of commercial banks is 6.44 percent. The average interest rate on loans during the same period was 10.99 percent. As current, the total deposits of commercial banks stood at Rs 3.388 trillion and loans at Rs 2.842 trillion. Deposits of banks and financial institutions have increased by 11 percent till last Baisakh. Such deposits had increased by 11.7 percent in the corresponding period of the previous year. On an annual basis, deposits have increased by 17.3 percent. Likewise, Credit has increased by 11.1 percent till last Baisakh. Such loans had increased by 17.1 percent in the corresponding period of the previous year. On an annual basis, loans have increased by 13.2 percent, according to NRB.

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