The Impact of Directed Credit Policy on Bank Credit to the Private Sector in Ethiopia: Case of Government Bill Purchase Directive

Gardachew Worku Fekadu

doi:10.14738/abr.66.3380

Abstract

In April, 2011, National bank of Ethiopia (NBE) has introduced an explicit directive called 27% NBE Bill purchase directive that forces private banks to invest 27% of their every new loan disbursements in Governments securities for five years at a very low interest rate, 3%. The major theme of this study was to examine the effect of this directed credit policy on the Commercial banks’ credit to the private sector. The study used unbalanced panel data of eight years of eight banks for years from 2007 to 2014. The study finds that directed credit policy has negative but insignificant effect on the banks’ credit to the private sector. However capital and deposits were found to be significant determinants of private sector credit in Ethiopia. Thus the claim by private commercial banks, IMF and WB does not look strong and factual and hence it was conclude that the Bill purchase directive in Ethiopia does not have any significant crowding out effect on the private sector. Thus it would be recommended herewith that emphasis shall be given on capitalizing commercial banks. Moreover commercial banks shall introduce innovative and branchless channels for deposit mobilization for deposits were found to be the most significant determinants of private sector credit in Ethiopia.

Highlights

Directed lending or priority sector lending has long been used by developed as well as developing nations as an instrument to channel credit at preferential rates to strategic sectors of the economy
Besides the use of statedowned financial institutions for ensuring its directed credit policy, in April, 2011 National bank of Ethiopia (NBE) has introduced an explicit directive called 27% NBE bill purchase directive that forces private banks to invest 27% of their every new loan disbursements in Governments securities for five years at a very low interest rate, 3%, far below from what banks pay as an interest for the deposit (5%)
Private banks that have been in operation for required number of years before introduction of directed credit policy are the main criteria’s for inclusion of samples in the study

Summary

Introduction

Directed lending or priority sector lending has long been used by developed as well as developing nations as an instrument to channel credit at preferential rates to strategic sectors of the economy. Directed credit programs that give loans on preferential terms and conditions to priority sectors were leading tools of development policy in the 1960s and 1970s. Countries around the world found that directed credit programs had stimulated projects that were capital intensive, that preferential funds were sometimes used for non priority purposes, and that the programs had increased the cost of funds to non-preferential borrowers and severely limited the amount of bank credit to the private sectors. Following the elimination of directed credit programs there has been a sharp increase in the availability of private credit clearly indicating how legal factors were determinants of bank credit to the private sector (Buttari, 1995)

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