The Bank of Namibia just put out a great explainer on monetary policy.
On Wednesday, the Southern African country’s central bank raised its benchmark repo rate 0.25% to 6.50%.
And the reason the bank’s biggest concern explains exactly why central banks raise rates.
Here’s the key portion of the statement:
The decision was taken to contain high growth in household credit particularly that of instalment credit. The MPC [Monetary Policy Committee] noted that a large portion of these loans continue to be primarily used to finance unproductive imported luxury goods, hence putting additional pressure on the international reserves of the country. With this increase in the Repo rate, the expectation is that the deposit-taking institutions will also increase deposit rates by the same margin, thereby encouraging saving.
Basically, people are taking out too many loans, too often, to too buy too many things they don’t need.
This exactly what central banks don’t want.
What central banks want is their economy to work. Central banks want people employed, inflation under control, and money moving through the economy with the appropriate ease.
Right now, the US Federal Reserve is keeping interest rates pegged near 0% in an effort to stoke economic activity.
Instead, it seems like Namibia has folks borrowing money to buy unproductive assets which the bank thinks pose a risk to economic stability. And so to combat this, the central bank wants to “tighten the screws,” so to speak, on financial conditions.
And so to do this, Namibia’s central bank raised interest rates by 25 basis points, or 0.25%.
Another other issue facing Namibia is that a lot of these loans are not being paid for in Namibian dollars, but in other currencies. The central bank doesn’t specify which ones, but it notes that its reserves are still sufficient to defend the current exchange rates with the US dollar and the South African rand.
If the bank’s reserves get depleted, the central bank will lose the arsenal it needs to defend the local currency if it starts to weaken.
However, the bank’s overall assessment of the economy was positive — inflation is low and stable thanks to cheaper oil prices. It seems, then, that with low prices but borrowing costs that are encouraging excessive borrowing, what the Bank of Namibia wants to avoid is a credit crisis.