Uncertainty has reigned in the banking industry since the National Bank of Ethiopia (NBE) lifted the mandate that private banks buy bonds from the Development Bank of Ethiopia (DBE) earlier this week. As of the third quarter of the last fiscal year, the 16 banks were owed 86 billion Br before interest from bonds purchased over the eight years since the directive has been put in place.

The uncertainty comes despite the firm opposition bankers, international institutions and banking experts had toward the original directive the NBE put in place to redirect deposits mobilised by the private banks toward the DBE. They question the ability of the policy bank to pay back the bonds now, as well as the macroeconomic consequences it will have down the road, since the policy was ended on November 20, 2019.

Worth 27pc of the gross loans and advances of the banks, with a maturity period of five years, the mandatory bonds were aimed at involving commercial banks in the national development endeavor.

“The rationale behind the bond was not limited to only supporting the economic growth through financing of mega projects but also to enforce a tight monetary policy to regulate inflation,” said a macroeconomist who preferred to remain anonymous.

In the first year that the directive came into force, 10 of the largest commercial banks invested 5.8 billion Br in NBE bills, which is 26.6pc of the total outstanding loans and advances of the banks.

Eight years later, the banks had purchased a total of 116 billion Br of the bonds, of which 30 billion Br was repaid to them with interest once they reached their maturity period. The interest rate on the bonds first stood at three percent, while the banks were forced to live with a five percent minimum interest cap on deposits.

Alarmed by the declining liquidity position of the banks, the Ethiopian Bankers Association (EBA) shared its position in 2011 in a 24-page assessment of the directive.

“The basis of the calculation to determine the bills to be purchased should be changed to the net deposit or net loan, instead of using the disbursement amount,’’ argued the Association.

It was not just the Association but also international financial institutions such as the International Monetary Fund (IMF) that did not show enthusiasm for the mandatory bond. Jan Mikkelsen, former resident representative of the IMF for Ethiopia, openly called for the administration of Prime Minister Hailemariam Desalegn to phase out its policy on the obligatory bond bill purchase in 2012.

The first signs of wavering from the government side came in 2017 following the devaluation of the Birr by 15pc against a basket of major currencies. In an effort to tame inflation, the central bank raised the minimum cap on interest rates for bank deposits to seven percent.

A year later, the NBE issued a new directive amending the interest rate of the bond to five percent on August 29, 2018. The directive also stated that the interest rate on NBE bills bought before September 2018 has to remain at three percent.

“The NBE bill rate is less than a third of the lending rate so the opportunity cost to private banks has been enormous,” said Abdulmenan Mohammed, an expert with over 15 years of experience in auditing and finance in Ethiopia and the United Kingdom.