Rates fall after Central Bank move

The interest rates banks charge each other have fallen by about 6 per cent in the past wee.

ABU DHABI, UNITED ARAB EMIRATES - June 22, 2008: The main entrance at the Central Bank of the United Arab Emirates in Abu Dhabi. ( Ryan Carter / The National ) *** Local Caption ***  RC006-CentralBank.JPGRC006-CentralBank_2.JPG
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The interest rates banks charge each other have fallen by about 6 per cent in the past week, since the UAE Central Bank said it would take charge of setting a new interbank benchmark. The three-month Emirates interbank offered rate (Eibor) dropped 0.15 percentage points, from 2.45 per cent on August 4 to 2.3 per cent Wednesday.

The drop comes as lenders respond to the Central Bank's desire for interest rates to come down after injections of Dh120 billion (US$32.67bn) into interbank lending markets and deposits at local banks. Emirates NBD and Abu Dhabi Commercial Bank lowered their rates by 0.05 percentage points immediately after the Central Bank's announcement, according to a Reuters report. The National Bank of Abu Dhabi lowered rates by between 0.15 and 0.25 percentage points.

A prolonged drop in Eibor would show that the Central Bank's actions to stem the financial crisis and reinvigorate lending were working. But Eibor has stayed stubbornly high compared with other interbank rates across the region. Saudi Arabia's three-month interbank interest rate was around 0.6 per cent Wednesday; Kuwait's stood at about 1.25 per cent. The interbank interest rate, or the average rate banks charge each other to borrow money, is an important barometer of the ease of lending.

A lower rate means the cost of funding for banks is lower, a saving they can pass on to consumers and businesses in the form of lower interest rates on everything from project financing to mortgages. With lower rates, consumers and businesses tend to borrow and spend more, stimulating the economy. Conversely, higher rates mean banks collect more income on existing variable-rate loans that are tied to Eibor. Most mortgages in the UAE are fixed at Eibor plus a number of percentage points. But high rates also mean banks generally get less new lending business.

The Central Bank's move to change the way Eibor is calculated may represent an effort to get the benchmark to better reflect the actual interest rates banks are charging, analysts say. As liquidity improves and deposit growth picks up at local banks, they say, the regulator wants Eibor to reflect this. "It is very clear that there's a strong push to get rates down and this is one of the ways to do it," the head of treasury at an Abu Dhabi bank told Reuters last week.

The Central Bank indicated this was its intention when it released a statement on August 4 saying it wanted to make adjustments "to facilitate a process whereby the rates fixed are a fair representation of the prevailing market conditions. "The rates should also reflect the strength of the domestic banking system," Currently, Eibor is calculated as an average of 10 local and foreign banks' rates, excluding the lowest and highest.

* with Reuters afitch@thenational.ae