Single Digit Interest Rate in the banking sector: Problems and Prospects

Bringing the interest rate down to the single digit is such a welcome move according to the investors. But the depositors are not satisfied with this news as the rates of deposits will also decline making them less privileged. So single digit interest rate in the banking sector has some positive and negative effects. Currently private banks are lending at between 14% and 15%. The average rate of interest for deposits is between 9% and 10%. Owners of private commercial banks have recently decided to bring down the interest rate on lending to 9% and that on deposits to 6% from the existing levels. Interest rate for the three-month term deposit will be 6% and the lending interest rate will be 9%. No bank will charge an interest higher than this. According to some bankers this initiatives will create an industry friendly environment, new entrepreneurs, generate employment and accelerate trade and business.

Prospects: Bringing the lending rate down to a single digit is a good and timely decision for the country's private sector investors. This will help gain the investment needed for the expansion of existing businesses as well as for new enterprises. The expected outcome of the decision is that private sector investors will get loans at lower interest rates and this will increase private sector investment. Lower rate of interest raises the investment. More investment generates employment and employment raises the aggregate demand. Thus, an economy can gear up it's dilapidated state by lowering the rate of interest. If the cost of fund declines, producers can easily provide goods and services at a cheaper rate. And bringing down interest rate to single digit is supposed to lower the cost of fund. According to the Bangladesh Bureau of statistics, the contribution of investment to GDP was 30.51% in the 2017-18 fiscal years, of which 23.10% came from private investment and 7.41% from public investment. The budget for 2018-19 set the target to improve the ratio of investment to GDP to 33.54%, of this 25.15% is expected to come from the private sector and 8.39% from the public sector. So single digit interest rate is likely to help boosting investment.

Problems: Bangladesh Bank data show that more than 100 million account holders deposit money in 57 banks. Total deposit in December 2017 was taka 9,26, 179 crore. At the end of March 2018, the amount stood at taka 9,25,160 crore. The depositors have withdrawn nearly a thousand crore taka due to the lower interest rate. So the decision to cut down interest rates is likely to discourage clients form depositing money in the banks and the continued disbursement of loans and a decline deposit will led to liquidity crisis in the banking sector. Some economists opined that the slashing interest rates could trigger more liquidity crisis, which in turn could jeopardize the plan to reduce the lending rate.

In fine, it can be said that if the central bank wants to minimize the spread between lending and borrowing rate, it should maintain a contractionary monetary policy. Only lowering prevailing interest rate will not curb the banking problems out. Demand for money largely depends on interest rate, but on the hand depositors get no incentives on lower interest rate. So government should take a balance measure in the financial sector.