Lenders typically price loans using the prime rate as a reference, with premiums or discounts to the measure depending on the cost of funding, risk appetite and the creditworthiness of clients. Gross loans and advances extended by banks amounted to 6.2 trillion rand in October, central bank data shows.
“The prime rate is a bizarre hangover from history that the Reserve Bank has historically refused to touch, overplaying the costs to banks and others to change contracts but seems to have now seen the light,” said Peter Attard Montalto, managing director at advisory firm Krutham. “It is long overdue to die — even if the positive impact is slight, it’s a free lunch.”
Potential reforms could include abolishing the reference rate or adjusting the spread between the monetary policy and prime rates. Any changes will prompt lenders to revise existing financial contracts such as mortgages, overdrafts, vehicle finance agreements and credit card facilities and may affect bank income.
Previous review
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A previous review of the prime rate by the central bank and Banking Association of South Africa almost two decades ago affirmed the spread over the key policy rate, concluding its size was “immaterial” as a determinant of lending rates. Over the long term, narrowing the margin would make little difference to the interest rates clients pay on debt as loans would continue to be priced according to their degree of risk, according to that study.
However, over the short term narrowing the gap between the monetary policy and prime rates would reduce consumer debt-service costs, ease financing constraints and improve access to loans for businesses, said Sanisha Packirisamy, chief economist at Momentum Investments.
“The challenge will be preserving bank profitability and broader financial stability to ensure credit provision into the economy for economic growth,” she said.
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The central bank generally seeks input from market practitioners and publishes clear guidelines when reforming rates. It set aside about four years for the introduction of the South African rand overnight index average or Zaronia — a new reference rate for short-term financial contracts such as derivatives — that will replace the Johannesburg interbank average rate, or Jibar, on Dec 31.
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