For every Shs50,000 that is borrowed by a poor Ugandan from money lenders, he or she ends up paying Shs250,000, indicating a whopping interest of Shs200,000 a study by the National Planning Authority on Reducing the Cost of Credit in Uganda has revealed.
The study says that the majority of Ugandans have ended up in the traps of money lenders who are mushrooming on a daily basis.
“These money lenders are accessible and have huge reach even in rural areas where Banks do not reach. The process of processing for these loans is easy and faster,” NPA said
These loans do not require collateral and remember 80% of Ugandans do not afford collateral.
The study revealed that Banks lend mostly to the low-risk high-income prime borrowers with collateral yet about 80% of Ugandans lack collateral and are high-risk, low-income subprime borrowers.
“There is the urban concentration of the banks yet 75% of Ugandans live in rural areas. Banking penetration is low at ~ 21% with a branch presence in only 33 districts. Default rates are high leading to high loan provisions and derisking through financial literacy and accounting for creditworthiness which is key to subprime risk management are not emphasized,” the study reveals
“The above local credit market inefficiencies have resulted in a small customer base, low economies of scale, and charging high-interest rates by the banks to their few customers to generate enough operational capital,” it adds.
Bank Policies
According to the study, some bank policies implicitly lead to focus on profits, increase operational costs, and reduce financial inclusion.
Examples, the study said include the tier restrictions prohibiting the Tier III institutions from enrolling their own bank agents which negatively impacts the competitiveness of the banks that are reaching the lower-income strata in the country.
Another example is the maximum 5% Non-Performing Loans (NPL) policy which drives banks to prioritize lending to high-income earners to operate within the 5% NPL target.
“Local credit markets inefficiencies the local formal credit markets face several inefficiencies which result in high lending interest rates. The banking sector is oligopolistic and dominated by private and foreign-owned banks that focus on profit maximization at the expense of NDP III priority sectors.
The lending and credit risk models, according to the study exclude the majority and are not fit for the economy.
“Ugandan banks apply prime lending models to manage credit risk in a predominantly subprime economy,”
Undercapitalized Public Banks
Uganda’s public banks are undercapitalized and unable to influence the market. This limits the ability of the government to intervene at the grass-root level.
The public banks are instead followers of the private banks. Government borrowing from the credit markets
The government directly competes with the local credit markets by borrowing from the local banks. This reduces the supply of credit to the private markets, which contributes to the high lending interest rates.
“If properly implemented, policy measures providing solutions for mitigating these root causes of the high lending interest rates, especially reducing operational costs which is the major driver of lending rates, are expected to be more effective at ultimately reducing the high cost of borrowing and increasing access to credit in the country.
These, according to the study include among others; government investment to strengthen Uganda’s public banks, banking sector policy review changes, and or reform and reduction of government borrowing from local credit markets.
Gov’t Should Invest in Public Banks
This report highlights public investment to strengthen the public banks as the flagship policy action for reducing the lending interest rates because it enables the government to intervene at the grass-root level.
When the public banks become market leaders, the private banks will adopt their successful best practices. It recommended that government should invest Shs2.5 Trillion in its 3 owned banks in order to dominate the sector.
Government is the majority shareholder in all its three banks with Housing Finance Bank (HFB) 51%, Pride Micro Finance (PMF), and Post Bank 100%.
According to the study, if government injects this money into the banks it will help it dominate the sector which has been taken over by private players.
“The government of Uganda to invest Ugx. 2.5 trillion in the Public Banking Institutions to achieve a market share of 20% in 7 years. This will strengthen the public banks to become market leaders and influence the lending culture and pricing in the industry,” reads part of the study,
“Banking is all about sharing best practices and as market leaders, the private banks will adopt the successful best practices of the public banks,” it adds.
The study further highlighted how this money can be invested with Post Bank taking the lion’s share of Shs1.4Tn, PMF Shs733Bn, and HFB Shs293Bn.
For Post Bank, Shs12Bn should be invested in Software for digitization, Shs360Bn in Recapitalisation, Shs1.05Bn in line with credit, and Shs45Bn in PPE.
For PMF, Shs6Bn should be invested in Software for digitization, Shs180Bn in Recapitalisation, Shs525Bn in line with credit, and Shs22Bn in PPE, and lastly for PHFB, Shs2Bn should be invested in Software for digitization, Shs72Bn in Recapitalisation, Shs250Bn in line with credit and Shs9Bn in PPE.
“This total investment amount was allocated between the three public banks based on the expected impact on the economy by each bank. Factors considered include the market share (customers, revenue, & loan portfolio), NDP III allocation, and composition of its customer base,” it added
