Lower interest rates and higher investment: Not that simple


Lower interest rates and higher investment: Not that simple

Sunday, September 01, 2019

Print this page Email A Friend!

After reducing crime, increasing economic growth is the next most important goal for the Government and for most Jamaicans, hopefully leading to an increased standard of living for the majority.

Stimulating and sustaining economic growth is something the economics profession has not solved. There is no one package of policy prescriptions which works in every country because each country has a unique situation.

What economists know is that increased investment can spur increased economic growth by increasing use of existing productive capacity and by creating new productive capacity. Investment takes place when there are opportunities and the ability to take advantage of them.

Investors usually never have all the money they need so they borrow from financial institutions, and their ability to borrow depends on having collateral. This means that only those who have assets can borrow from financial institutions.

In addition, investment depends on the cost of borrowing, ie the rate of interest charged which, in turn, depends on the cost of funds and the mark-up ie the rate of profit and alternatives to lending such as investment in government securities or deposits with the central bank or other institutions.

Therefore, the central bank can influence interest rates by the rate it offers financial institutions for overnight deposits and the rate of interest on treasury bills.

The newly appointed BOJ governor, Mr Richard Byles, in seeking to pump up economic growth now struggling at one per cent of GDP, has taken a measure to lower interest rates.

The underlying assumption is that lower interest rates will lead to increased levels of credit and to more borrowing, hopefully to be used for investment in productive capacity. We say hopefully because it is not always that simple, as more borrowing does not necessarily boost growth. There is a downside.

First, increased availability of credit and borrowing, while good for financial institutions, could end up fuelling demand for foreign exchange and increased imports, precipitating further depreciation of the weakening Jamaican dollar. This could affect the rate of inflation.

Second, the level of activity in the sectors driving the economy — tourism and bauxite — is more influenced by external demand, the exchange rate and external interest rates, not by the availability of credit and local interest rates which are used to finance working capital.

Third, investment in the sectors that could provide substantial expansion of production and create employment would have to be in agriculture and small and microenterprises. Either sector is able to borrow from the formal financial institutions which the governor has summoned to exhort or admonish.

The majority of small and microenterprises do not have the collateral and the accounting records to borrow from formal financial institutions. Their operations and investments are financed by savings, borrowing from family, “informal” lenders and credit unions.

Agriculture requires long-term low interest rate lending, and that is not what banks do. Formal financial institutions do not do venture capital at just any interest rate, so the availability of credit is for whom and for what?

Fourth, mortgage rates are not going to go down, because that depends on cost of funds, ie savings, which is related to precautionary motives and down payments for homeownership. Public sector institutions have to service a large part of the mortgage lending market.

Fifth, if they can only lend at lower rates, formal institutions may lower their rates on savings deposits and certificates of deposits.

We hope, for the sake of investment and economic growth, that the positives outweigh the possible downside inherent in more credit and lower interest rates.

Now you can read the Jamaica Observer ePaper anytime, anywhere. The Jamaica Observer ePaper is available to you at home or at work, and is the same edition as the printed copy available at http://bit.ly/epaperlive




1. We welcome reader comments on the top stories of the day. Some comments may be republished on the website or in the newspaper � email addresses will not be published.

2. Please understand that comments are moderated and it is not always possible to publish all that have been submitted. We will, however, try to publish comments that are representative of all received.

3. We ask that comments are civil and free of libellous or hateful material. Also please stick to the topic under discussion.

4. Please do not write in block capitals since this makes your comment hard to read.

5. Please don't use the comments to advertise. However, our advertising department can be more than accommodating if emailed: advertising@jamaicaobserver.com.

6. If readers wish to report offensive comments, suggest a correction or share a story then please email: community@jamaicaobserver.com.

7. Lastly, read our Terms and Conditions and Privacy Policy

comments powered by Disqus



Today's Cartoon

Click image to view full size editorial cartoon