Consumers and traders are requesting that the banks postpone their monthly loan payments. And the outcry and its justifications, supported by a group of parliamentarians, have been rebutted by many seemingly objective arguments from the Central Bank of Jordan (CBJ), the bankers themselves, and several pundits. However, the debate gained momentum during the Holy Month of Ramadan and the upcoming Eid holiday.
The CBJ raised its main interest rate from 2.5 percent on March 3, 2010, to 7 percent on March 26, 2023. According to the CBJ database, the new rate is the highest it has been since 2017. The 4.5 percent escalation occurred over nine raises during the mentioned period. Conversely, the announced reason(s) for these raises were two: safeguarding the attractiveness of the Jordanian dinar relative to the US dollar and maintaining the dollar-to-dinar peg of 1995; and combating inflation.
Both arguments, however, are subject to debate. There is strong empirical
evidence that maintaining the interest rate margin between the JD and the US
dollar is not effective in attracting JD deposits versus dollar deposits when
the real economic growth rate is low. In other words, the paltry margin between
the two currencies is dismal when compared to what would be a catastrophic
collapse of a currency, which would be in double digits. On the other hand, the
dollar-to-dinar margin is effective in attracting dinar deposits when the
economy is doing well. Meaning, when people are optimistic about the economy,
rationality leads them to dinar deposits as they pay higher and there is very
little risk.
As to combating inflation, and raising the interest rate, the
argument used is not accurate. Even though it may shrink the money supply and
thus reduce liquidity in the hands of people, in a country like Jordan where
imports are almost two-thirds of the GDP, one should discern that two-thirds of
the inflation is imported. Consequently, raising the interest rate will raise the
cost of production, lower the inflow of investment, reduce demand for large
ticket items such as real estate, and thus reduce economic growth while not
affecting inflation per se. For example, while the Industrial Production Index
rose in March 2023 by 0.9 percent, the Producers Price Index also rose by 3
percent (which, in a productive economy, would be an anomaly), and the Consumer
Price Index rose by 3.91 percent.
In the US, banks are not allowed to raise the interest rate on existing loans;
in Jordan, they are. Hence, when someone takes a loan at the old rate, they
would not be affected by the interest rate increase. Only those wishing to
borrow anew will be affected. In Jordan, the interest rate rises for both old
and new loans; this is not healthy at all. Why? Let us demonstrate with an
actual example. A colleague has taken a 30-year loan of JD37,000 at 5.75
percent two years ago; the interest rate now is 9.45, an increase of 3.7
percent or 65 percent of the original interest. The bank did not increase her
monthly payments; it simply increased the repayment period by almost two years.
Given that the banks in Jordan also deduct the interest payments first, which
is an absurd practice; my colleague, even if she won the lottery and became
able to pay the loan early, would have to pay the full amount plus all interest
payments. The bank never loses.
Note that the whole risk burden of the loan, which is typically guaranteed by a
real estate property that far exceeds the value of the loan, is upon the borrowers
and not the banks. Also, the banks do not need to borrow from the CBJ since
they have ample dinar and dollar deposits as Jordanians shy away from the stock
and real estate markets in favour of bank deposits. The CBJ is not interfering
with the banks even though as a regulator its law empowers it to do so.
So, should banks postpone payments this month? It stands to
reason that at least one bank or more would do so to compete with others and
expand their client base. Should banks move in unison, the move would be
considered by some as a signal that some form of tacit collusion exists in the
banking sect, which is illegal under the law and harmful to the economy.
Is postponing loan payments with full interest good for the borrowers? Depends.
For those that desire to consume now (Ramadan and Eid are occasions for
increased spending, followed by a period of temporarily heightened poverty) at
all costs, they should have the choice. The banks lose nothing; in fact, they
gain. If one is frugal, it is better not to increase borrowing now.
Is it good for the economy that people can postpone payments now to enable them
to spend more? Of course yes, A heightened demand leads to a surge in the GDP,
even if temporary. All nations spend more during the religious or national
holidays, whether it is Eid or Christmas, spending goes up before and during
the festive occasion and declines thereafter to pay off the debt that was
accumulated.
Is the banking sector hurting and is therefore in need of cash, which justifies
its refusal to postpone the payments? Not at all. The banking sector grew at an
average rate of 3.5 percent in constant prices over the past four years. In
2021, and 2022, it grew by 4.2 percent and 4.4 percent, respectively while the
economy grew by 2.2 percent and 2.5 percent. In the COVID year (2020), the banking
sector was the least affected as it grew by 3.1 percent in constant prices and
the economy grew by a negative 1.3 percent.
In summary, offering those who request a postponement of payment is costless to
banks and even revenue-generating. Competition rules indicate that since there
is a demand, and no additional risk, postponing payments should not have been
so controversial.
Published in Jordan News:
https://www.jordannews.jo/Section-36/Opinion/On-postponing-the-monthly-loan-payments-28118
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