Fiji’s largest banking institution has announced that it will be raising the interest rates on ANZ Commercial and Business Loans and Overdrafts by 0.50% p.a. (per annum)
Now we may wonder why such a move by the bank? The simple answer is, LIQUIDITY.
Below, Reserve Bank of Fiji explains why a financial institution may increase its interest rates.
Liquidity levels, which refer to the funds that the commercial banks deposit at the RBF is one important factor that influences interest rates.
When faced with liquidity constraints, financial institutions tend to raise interest rates to attract deposits for maintaining sufficient levels of liquidity in order to meet payment obligations and extend credit.
Read what Minister of Economy has to say on Liquidity here: There is no impending threat to the Fijian economy says AG after Lynda Tabuya Spreads Misinformation
While some institutions would transfer this high cost of funds to lenders, others may choose to absorb this extra cost until profits are affected significantly, particularly due to competition.
In contrast, healthy liquidity levels are associated with low interest rates that support lending to private individuals, businesses and the public sector.
Interest rates are also influenced by the level of risk associated with the client that is borrowing funds or the sector that the business is operating in.
Generally, the higher the risk, the higher the interest rate charged by the lender.
Like other central banks and monetary authorities, the Reserve Bank of Fiji’s (RBF) monetary policy stance influences the direction of interest rates movements in Fiji.
It is important to note that the RBF does not set interest rates charged by financial institutions. However, the RBF influences the level of interest rates in the banking system by setting its key policy rate – the overnight policy rate (OPR). Hence the announcement of an increase in the OPR represents tightening of the RBF’s monetary policy and vice versa, which feed through to commercial banks’ short-term lending and deposit rates and to all the other relevant interest rates in the economy.
How do interest rates affect the economy?
The rate of interest that is offered by financial institutions affects peoples’ decisions on whether to save or spend their money. Usually, when interest rates are high people tend to save or deposit more of their money. By doing so, consumers are postponing their current spending to a later date i.e. keeping money aside for future spending.
Additionally, when interest rates are elevated, people tend to borrow less since it costs more to take out loans today and means lower spending in the future when the loans fall due. Businesses operate the same way, as higher interest rates will raise their business costs and reduce the incentive for borrowing.
The decisions by savers and borrowers affect consumption and investment decisions, and ultimately aggregate demand and overall economic activity. If interest rates are high, people are expected to spend less. More money will go into saving and less will be borrowed for spending on consumption and investment. Conversely, if interest rates are low, individuals and businesses save less as their return on deposits will be low. They are likely to borrow more as the cost of borrowing is cheaper. Consequently, there will be more spending that will boost economic activity.
While high interest rates encourage people to save and provides funds for investment, it cannot be too high. The saving rate is a cost for financial institutions, and if their cost of getting funds/savings from people is high, they may pass this to consumers by increasing lending rates which will ultimately discourage borrowing for consumption and investment. Therefore, balancing the interests of savers and borrowers is essential in ensuring continued flow of funds from savers to investors.
Meanwhile, Minister for Economy says that Liquidity poses no threat to our economy. Read about his view here: There is no impending threat to the Fijian economy says AG after Lynda Tabuya Spreads Misinformation