Big changes coming to the interest rates you pay on loans in South Africa

South Africa is reviewing the main reference rate commercial banks use to price trillions of rands of loans to clients.

The South African Reserve Bank is working on the prime lending rate, it said by email. The measure has been fixed at 350 basis points above the country’s monetary policy rate since 2001. There are no timelines yet, the central bank said in response to questions.

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 R6.2 trillion 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 it 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

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. 

The net impact of terminating the prime rate or lowering the spread between it and the benchmark interest rate would likely be positive for lenders and the economy, according to Adrienne Damant, a senior banks and insurance analyst at Avior Capital Markets. 

That’s as a decline in lending-contract prices would improve affordability of debt and bank credit-loss ratios, while greater demand for loans could also spur a credit cycle that may bolster fee and commission income generated by banks, she said. 

“A risk would be rising inflation, which could result in the Reserve Bank increasing the repo rate, reducing the positive impact on the banks and economy.”

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 31 December.