Breaking the cycle

In response to global monetary developments and the US Federal Reserve's increase in interest rates, the Central Bank of Jordan (CBJ) has raised interest rates on all monetary policy instruments nine times in the past twelve months (from March 2022 to March 2023). The goal of these actions is to maintain monetary stability, preserve the attractiveness of the Jordanian dinar as a savings vehicle, and combat inflation. Additionally, this is being done to maintain a favourable interest margin between the dinar and the dollar. While the relationship between the Federal Reserve's interest rates and interest rates on monetary policy tools is not one-to-one, it is acceptable given the Jordanian dinar's peg to the US dollar and the limited options available to policymakers in the realm of monetary policy. Have banks fully reflected these increases on deposits and loans?

Upon analysing the data, it can be concluded that banks did not fully reflect the increases in policy interest rates on all types of deposit interest rates. Time deposits had the highest increase, amounting to 151 basis points, which is 35.5 per cent of the total increase in the central bank's main interest rate over the same period. The weighted average of interest rates on demand deposits followed with an increase of 20 basis points, constituting approximately 4.7 per cent of the increase in the official interest rates represented by the main interest rate of the CBJ.

While deposit interest rate increases can provide a source of income for deposit holders, they also increase the costs of bank funds, which is a crucial factor reflected in the pricing of various types of credit facilities offered by banks to clients, including individuals, small and medium-sized enterprises, and large companies. Therefore, given that the increases in interest rates on deposits were not significant, it is assumed that the increases in various types of loans will also not be significant during this period. So, what does the data indicate?

 During the period between March 2022 and March 2023, the increases in loans interest rates partially reflected the changes in policy rates. These increases were more significant than those on deposits, ranging between approximately one-third (35.3 per cent) to almost half (45.2 per cent) of the increases in the official interest rates on monetary policy tools.

The interest rate curves for credit facilities displayed differing increases, with the prime customer curve showing the most significant increase. The rate increased from 8.37 per cent in February 2022 to 11.09 per cent in March 2023, which is an increase of 272 basis points. This increase accounts for 61.1 per cent of the total increase in the main interest rate of the CBJ.

Regarding interest rates on loans and advances, their weighted average increased from 6.93 per cent in March 2022 to 8.85 per cent in February 2023, which is equivalent to 192 basis points. This increase constitutes 45.2 per cent of the total increase in the main rate of the CBJ. These results confirm previous studies that suggested interest rates on loans and advances do not directly respond to changes in monetary policy tools but instead absorb such changes over extended periods, possibly up to a year. This is because the correlation between interest rates on loans and advances and the deposit window rate increases from 27.2 per cent in the same quarter to 63.7 per cent after four quarters. This implies that the response of market interest rates is only partial and does not reflect the entire change in the prices of monetary policy tools. It only reflects about two-thirds of the change in interest rates on monetary policy tools after approximately a year. The question that arises is whether borrowers will experience similar percentage increases in their loan installments. Some people claimed that not all borrowers will necessarily face an increase in their loan installment amounts due to the following reasons:

(a) The majority of individual loans (63 per cent) provided by banks carry fixed interest rates and are not impacted by changes in official interest rates. These loans constitute about 30 to 35 per cent of the total credit facilities provided by banks.

(b) The CBJ requires banks to fix the value of the loan installment, unless the borrower requests otherwise, in order to reduce the burden of raising interest rates. Banks can extend the repayment period and use other mechanisms to achieve this.

(c) Refinancing programmes for vital projects and programmes to support small and medium-sized enterprises, professionals, and craftsmen exist at reduced interest rates that do not exceed 2 per cent. These programmes will not be affected by changes in official interest rates until the end of September 2022 for small projects and for a longer period for vital projects.

(d) Previous studies have shown that interest rates on loans and advances respond to changes in interest rates on monetary policy tools after long periods, up to a year. The response is partial initially but increases to reflect more than two-thirds of the change in interest rates on monetary policy tools after up to a year.

Despite all of the above, a wide segment of borrowers in Jordan are still experiencing the negative effects of increased interest rates on various types of credit facilities. Their issue has been widely discussed on various media outlets, social media platforms, and blogs of some borrowers, and has been brought to the attention of the relevant authorities. Each party has defended their position on the matter, but the affected borrowers' voices have remained strong. How can borrowers be helped? 

There are several ways to approach this issue and help solve the problem faced by the affected borrowers in Jordan; First, advocating for policy changes to protect the interests of borrowers, such as introducing regulations to limit interest rate hikes, implementing transparent and fair lending practices, or providing financial support to those who have been impacted by the rate hikes. Second, raising awareness about the issue, educate people about their rights as borrowers, and highlight the negative effects of increased interest rates on borrowers and the economy as a whole. Third, supporting affected borrowers by offering financial advice, connecting them with financial assistance programs or non-profit organisations that offer financial counseling and support. Fourth, engaging with the relevant authorities, such as the Central Bank of Jordan or local policymakers, to raise the concerns of the affected borrowers and push for solutions to address the issue. Fifth, collaborating with other stakeholders, such as banks, financial institutions, and non-governmental organisations, to come up with innovative solutions that benefit both the borrowers and the lenders.

Adli Kandah is an economic and financial adviser