Interest rate and commercial bank profitability in Cameroon, case of Afriland First Bank Yaounde

Abstract

This study sought out to investigate the effect of interest rates on the profitability of commercial banks in Cameroon case study of Afriland first bank Yaoundé.

The main objective of the study was to examine the effect of interest rate on the profitability of a commercial bank.

This study adopted a descriptive research design using secondary data obtained from annual reports of Afriland first bank Yaoundé for the period of seven years from 2005to 2019.

Data obtained was analyzed using SPSS version 21 and results obtained tested for significance using ANOVA.

The study found that the dependent variables account for 14.7% (R-Square, 0.147) of the independent variable.  The remaining 61.9% could be explained by other factors outside the scope of this model. 

The profitability of commercial banks measure by ROA and interest rate, have an insignificant relationship with each other.

The Pearson correlation coefficient (R) result also showed a weak positive value of 0.383, which also lends credence to the fact that interest rate, has no influence on the profitability of commercial banks.

The study recommends the Central Bank need to exercise their monitoring roles strictly and discipline any commercial banks that may be increasing the interest rates arbitrary.

Further, policies need to be put in place to shield bank lending rates and ensure monitoring the same. It was concluded that the interest rate has no significant effects on the profitability of a commercial bank.

CHAPTER ONE

INTRODUCTION

1.1 Background to the study

The history of banking is intertwined with the history of money which came as a result of the activities of the goldsmith who safeguarded gold on behalf of gold owners, in their vault and had to issue a receipt to them and also used it for granting of loans to those who needed this gold said (Davies,2002).

In the Babylonia age of 2000BC, people depositing gold were required to pay the amount as much as one-sixtieth of the total deposit.

The thirst for profit, longing to become rich instilled daring into the goldsmith” why not become a gold lender” and payment of interest on the gold and that’s how the goldsmith put money into circulation through lending, (Louis, 1936).

According to the historian, Paul Johnson, the lending of “food money”   was common in the Middle Eastern civilization as early as 5000BC; the argument that acquired seeds and animals could reduce themselves was used to justifying interest.

Also, in the early 2^nd millennium BC, since sliver was used in the exchange of livestock or grain could not multiply on its own law of Eshnunna instituted a legal interest rate specifically on deposit of dowry, early Muslims called this Riba (charging of interest rate).

In the medieval economy, loans were as a consequence of a bad harvest, fire in a place, under those conditions, it was considered morally reproachable to charge interest.

The first attempt to control the interest rate through manipulation of the money supply was made by Banque de France in 1847.

The latter half of the 20^th century saw the rise of interest-free Islamic banking and finance, a movement that applies the law to financial houses and economy, some countries including Iran, Sudan and Pakistan have taken steps to eradicate interest from their financial systems.

During the 1980s many African, Asian, and European countries have adopted McKinnon and Shaw financial model by eliminating or reducing credit control, giving autonomy to commercial banks, deregulating interest rate, permitting private ownership of banks, free entering into the banking sector, and liberalizing international capital flow.

The Nigeria government in 1987 deregulates the interest rate as part of a structural adjustment program. (SAP)

In 1986, Nigeria interest rate was as low as 2.5%, it rose to 8.9% (CBN; 1990).

Auction markets for government securities were introduced; capital adequacy standards were reviewed upward and the extension of credit based on foreign exchange deposits was banned (Hussainatu;2008).

Nigeria’s interest rate fluctuates over time as the Central Bank was to regulate and supervise all interest rate re-administered. The monetary authority introduced indirect monetary instruments in order to control the interest rate and the rate of inflation. The interest rate has doubled through the period of 1997 and 2007 attaining a peak of 24.62 (CBN; 2002). 

By almost any measure, the commercial bank is the most important financial intermediary serving the public today.

They offer more services than the majority of other financial institutions, which include expanding the money supply by granting credits (loans) to borrowers.

They accept deposits from saving surplus units (lenders), and grant it as credits (loans) to saving deficit units (borrowers).

Loans and deposits are the major components of the bank’s balance sheet—Assets and Liabilities. The fee paid by someone for the use of someone else’s money is known as interest

Interest rates in Cameroon is a major instrument of monetary policy with regard to the role it plays in the mobilization of financial resources aimed at promoting economic development and profitability of commercial banks

In the economic and monetary community of central African (CEMAC) decisions about interest rate are taken by the central bank of central African states monetary policy committee.

The official rate in the central bank of central African states is the prime lending rate. Cameroon as a member of the CEMAC region actual benchmark interest rate of 3.25%.

Also, the interest rate in Cameroon was 4.25% as in July 2009, move to 4% in 2010 right to 2014, record lower interest of 2.45% in July 2015.

from 2016 to 2018 move to 3% and increase further to 3.5% in 2019 as of 2020 the interest rate is at 3.3%.

1.2 Problem statement

Many researchers have carried out research on the effect of interest rates on the profitability of commercial banks but no good work has been done on the effects of interest rate on the profitability of a commercial bank in Cameroon.

Lower interest rate turns to attract many customers to demand more loans.

However, higher interest rates will increase the profitability of a bank. 

The main objective of commercial banks is to maximize profit, which is the maximization of shareholder’s wealth.

To make this profit, more loans must be given out. From this loan, interest is received and therefore, increases in profit.

Due to the competition among the bank’s interest rate remains in a comparable range.

For tracking and managing the significant development interest rate is to be addressed a significant economic problem (Boulier, Huang &Taillard, 2001; Laubach, 2009).

The low and sometimes negative interest rate real interest rate discourage savings, increased the demand for loanable funds.

The demand for fund soon exceeds the supply of funds while essential sectors of the economy were starved of funds (Obute, Asor and Idoko).

Bank charges in Cameroon are regulated by the ministry of finance.

The lending rate is approximately 22%without taxes. (This has recently been increased from 17%) for an exchange rate of 1.5 to 4% apply both to selling and buying.

The deposit rate applies at a maximum rate of 8% with a base rate of 4.5%. Other charges apply, on average at a rate of 15% on the transaction amount.

A single borrower’s limit must exceed 45% of the bank capital funds.

Despite this greatest desire of commercial banks in Cameroon is to maximize profit efficiently and effectively by charging reasonable interest.

Never the less, there are any enough empirical studies available to guide policymakers, financial expects to carry out better reforms concerning interest rate in Cameroon.

This had led to some research questions like these;

The main research question ask is, what is the effect of interest rate on the profitability of commercial banks?

How does the ROI (Rate of interest) influence the supply and demand for loanable funds in Cameroon?

1.3 Objective of the study

The main objective is to examine the effect of interest rate on the profitability of commercial banks. The following were specific research objectives.

1. To investigate how ROI (Rate of interest) influence the supply of and demand for loanable funds in Cameroon?