UGANDA, Kampala | Real Muloodi News | Ugandan businesses, particularly in the real estate sector, are turning to offshore markets for financial relief as interest rates on loans dominated by the local currency remain high in the midst of a slowing economy. This move is driven by the challenging economic environment, where small businesses and risky borrowers face escalating costs due to rising interest rates.
The Bank of Uganda’s (BoU) fourth-quarter bank lending survey for 2023 highlights that commercial banks are making it more challenging for sectors like building, mortgage, construction, and real estate to access loans.
The tightening of credit is attributed to the anticipation of increased loan defaults in the quarter leading up to September 2023.
Industry players are responding to these challenges by exploring offshore borrowing options, attracted by the comparatively low-interest rates and relaxed regulations offered by foreign markets. This strategy is seen as a means of mitigating the adverse effects of high domestic interest rates and providing asset protection.
While the use of offshore institutions is not illegal, it introduces businesses to alternative financing structures.
Lazarus Mugabi, a board member of the Association of Real Estate Agents Uganda, noted, “If you borrow in the domestic market, the best you can get is an 18 percent interest rate on loans, and yet you can get offshore money at five percent interest rates.”
This disparity in interest rates encourages Ugandan businesses to seek financial support from international sources, enabling them to compete more effectively in the local market.
The decision to raise interest rates domestically was driven by the need to control inflation, which had exceeded the nation’s medium-term target of less than five per cent, reaching 6.3 per cent.
The central bank’s rate increased from 6.5 per cent in May 2022 to 10 per cent by October of the same year, leading to a subsequent surge in interest rates.
This surge in interest rates had repercussions, with the private sector experiencing challenges in borrowing and consumer spending.
Commercial banks, under pressure to meet core capital requirements and address the growing number of non-performing loans, increased their lending to the government as a safer alternative to private borrowers.
However, this has created additional pressure on the domestic borrowing market.
In the face of a weak economy, borrowers sought loans totalling USh8.7 trillion, an increase from Shs6 trillion in the previous period.
Despite this genuine desire to revitalise businesses, start new ventures, and settle financial obligations, there was a decrease in the credit approval rate, falling by 5.5 percentage points to 58.6 per cent.
The private sector credit witnessed varying trends, with growth observed in the manufacturing, agriculture, housing, and business services sectors.
However, credit declined in sectors such as trade, transport, communications, and personal loans.
The economic environment, characterised by low inflation and limited aggregate demand, poses challenges for industrialisation efforts in Uganda.
Uganda’s demographic dividend, with 78 per cent of the population under 30 years old and 41 per cent in poverty, presents hurdles for businesses.
The nation’s pursuit of industrialisation is deemed insufficient in addressing unemployment challenges, as low wages and competition from cheaper imported substitutes hinder the growth of local industries.
In response to these challenges, Ugandans are investing in government papers, contributing to a debt trap.
The private sector’s exploration of offshore markets for foreign currency-denominated loans, coupled with the government’s borrowing in foreign currency, has reduced the dollars available from domestic lenders.
Consequently, businesses are increasingly turning to loans from offshore markets.
The government’s servicing of loans, amounting to close to $1 billion annually for the past two years, has contributed to a decline in the country’s foreign exchange reserves from $4.5 billion to $3.9 billion.
Efforts are underway to limit interventions in the forex exchange market, where the central bank used to play a significant role.
Recent data from the Bank of Uganda reveals a decrease in the growth of private sector credit, leading to an increased uptake of loans dominated by foreign currencies.
The depreciating shilling has further influenced this trend, prompting businesses to seek financial alternatives offshore.
Despite these economic challenges, businesses, especially in the real estate sector, are strategically navigating offshore markets to secure financing and sustain their operations.
The adoption of foreign currency-denominated loans is reshaping financial dynamics and providing businesses with opportunities to navigate the complexities of the current economic landscape.
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