Reducing the lending rate to a rational level

An interest rate is charged or paid for the use of money. Interest rates often change as a result of inflation and policies. It is often called the cost of money. Actually it is the price one pays, or someone pays, to rent money for a specific period of time. When one opens a savings account, for example, or buy a guaranteed investment certificate, the financial institution is borrowing the money and paying rent for its use. It then rents the money to others and makes a profit by charging them a higher rent.
The advantages of interest rates are the profits to the lender from loaning of money. This encourages the flow of credit. During the period of high inflation, interest rates are applied to reduce prices of goods and services. Another advantage is the return rewarded to those who invest money into savings. As savings are relatively risk free in comparison to other investments, during periods of high interest rates the level of yield can be favourable only if the savings are of a large amount. Ultimately, interest rates are favoured unfairly towards the profit of banks which are to the disadvantage of the borrowers.
Interest rates contribute to recession due to banks' irresponsible distribution of high-risk loans under the premise of returns from interest. On a wider scale, it could be suggested that it is the common people - the small/medium-sized businesses, the lower/middle income earners and the ordinary folks who are greatly disadvantaged as they are repaying an ever-increasing debt.
The main interest rate is set by the central bank. This is known as the base rate. If the central bank is worried that inflation is likely to increase, then it may decide to raise interest rates to reduce demand. If the central bank reduces the base interest rate, this will usually cause commercial banks to reduce their own interest rates. Lower interest rates make it cheaper to borrow. This tends to encourage spending and investment.
A fall in interest rates will reduce the monthly cost of mortgage repayments. This will leave householders with more disposable income and should cause a rise in consumer spending. If the central bank cuts the base rate, banks may not pass this cut onto consumers. It depends on other factors in the economy. A fall in interest rates should cause higher economic growth. However, there may be other factors that cause the economy to remain depressed. In case of bank lending on low interest rates, banks may be unwilling to lend. Therefore, even if people want to borrow at low interest rates they cannot because they need a high deposit.  In case of consumer confidence if interest rates are cut, people may not always want to borrow more. If confidence is low, a cut in interest rates may not encourage more spending.  In case of deflation, even if interest rates are very low, people may still prefer to save because the effective real interest rate is still quite high.  In case of time lag, a cut in interest rates can have up to two years to affect the economy.
There will be different impacts of a cut in interest rates on different groups within the society. Lower interest rates are good news for borrowers and homeowners. This group may spend more. Lower interest rates are bad news for savers. For example, retired people may live on their savings. If interest rates fall, they have lower disposable income and so will probably spend less. If a country has a high proportion of savers then lower interest rates will actually reduce the income of many people. On the one hand, lower interest rates encourage consumer spending; therefore there will be a rise in spending on imports. This will cause deterioration in the current account. However, lower interest rates should cause depreciation in the exchange rate. Low interest rate means low inflation in the system meaning lower income growth as wages will not go up. If the real wages don't go up then affordability will not increase with lower interest rates and hence the asset prices can go up. If the economy goes into recession, the central bank would cut interest rates.
The main tool of conventional monetary policy is interest rate which is set by the central bank. If inflation is low and economic growth negative, the central bank will cut interest rates to stimulate demand and spur economic growth.
At present, banks are free to fix the level and structure of interest rates under the market- based interest rate policy. The boards of directors of scheduled banks determine interest rates on their own consideration of profitability. Though the interest rate policy is market-based, the Bangladesh Bank (BB) often sets the maximum cap for loans in different priority sectors considering national interest and the overall macroeconomic situation. The current ceiling on interest rates for pre-shipment export loans is 7.0 per cent and for agricultural loan, 11 per cent. The effective rate of interest for the Export Development Fund is less than 3.0 per cent.   
Not more than 10 per cent (9.0 per cent in most cases) interest rate can be charged under the Bangladesh Bank refinance scheme for SMEs (small and medium enterprises) and women entrepreneurs; 4.0 per cent rebate rate is applicable for agriculture sector for cultivation of pulses, oilseeds, and spices.  These low-cost EDF (export development fund), buyers' credit, agricultural credit, SME refinance, and foreign loans are significantly contributing to the reduction of interest rates in the domestic financial market. Moreover, there is a rebate on accrued rate of interest for good borrowers.
Interest rate depends mainly on banks' costs of fund, administrative costs, provision, profit margins, and so on. The overall cost of fund for banks is decreasing due to rationalisation of various service charges, fees, commission charges etc, avoidance of high expenditure to establish bank branches, and adoption of policies towards limiting expenditure for the purchase of transport vehicles. Though banks' onetime initial costs have increased a bit because of implementation of information technology as instructed by the Bangladesh Bank, the costs of fund are gradually falling over time. In recent months, lending rate has not declined at the same pace as the deposit rate; however, with intensive monitoring and moral persuasion of the Bangladesh Bank (BB), both the lending rate and the interest rate spread have decreased to 11.93 per cent and 4.87 per cent respectively. At the same time, the rate of inflation has been falling steadily with prudential monetary management of the BB. At the end of April 2015, the average annual rate of inflation stood at 6.57 per cent. (Sources: Bangladesh Bank).
Recently, the government has announced reduction of the interest rate on all types of National Savings Certificates by around 2.0 per cent. As a result, the weighted average lending rate is expected to fall further in the coming days. The BB has been actively working towards reducing the lending rate to a rational level so as to ensure an investment- friendly economic environment. At present, banks have sufficient liquidity to expand loans to the potential borrowers. The BB has, therefore, been promoting credit flows to productive sectors at lower rates of interest through various financial inclusion activities which are contributing to the socio-economic development along with ensuring financial and macro stability. Following flexible monetary policy, the central bank has been continuing its strategic trend of providing necessary financial flows to the productive sectors for sustainable development. The common people and entrepreneurs are already getting the expected benefits. We hope that this trend will continue and will be extended further.
The low interest rates could be available through home equity loans, consumer loans, business loans, etc.  Some people use the borrowed money to start new businesses or expand existing businesses.  
The writer is an Assistant General Manager of Bangladesh Krishi Bank.
sobhan_bd2003@yahoo.com