The Bank of Uganda (BoU) cut its benchmark policy rate by one per cent to 13 per cent last week in a sign of optimism linked to previous policy decisions made this year as the government seeks to boost economic growth, tax collection and credit growth, analysts say.

BoU slashed the Central Bank Rate (CBR) in April by one per cent to 16 per cent, a trend that continued over the next six months under growing policy pressures driven by low economic growth and diminished private sector credit flows experienced since last year. As a result, the CBR has dropped to 13 per cent announced this month, from a high of 17 per cent in February.

READ: Uganda central bank cuts lending rate to 13pc

“There has been some improvement in certain economic indicators since April 2016 and this is demonstrated by strong growth posted in the last quarter of 2015/16 that stood at three per cent. As a result, the overall growth rate for 2015/16 rose from 4.6 per cent to 4.8 per cent. Our peak growth forecast remains in the range of 5.5-6 per cent due to external constraints posed by the global economic slowdown,” said Dr Adam Mugume, BoU’s executive director for research.

Commercial banks reacted positively towards the latest policy rate cut.

“The significant reduction of four per cent recorded in the CBR since April will definitely force many banks to cut their prime lending rates this time round while various interest rates captured in the market will also drop in coming weeks. Though the exchange rate has depreciated sharply in recent weeks, government’s strategic focus seems pegged to reviving economic growth, boosting tax revenues and containing inflation instead of pursuing short term gains in the currency market,” said Robert Mpuga, head of Treasury Operations at Bank of Africa Uganda.

Mr Mpuga said it shows that election risks have faded away and the economy is back on course.

“Since May this year, we have cut our prime lending rate by three per cent to 22 per cent and we are likely to cut it to 21 per cent in order to pass on the benefits of monetary easing to our customers effectively.

"But other banks need to follow suit for borrowers to reap much from declining interest rates. Volatile movements prevailing in the exchange rate market are largely caused by non-monetary factors and might not be tamed by drastic monetary policy actions carried out by the Central Bank,” said Patrick Mweheire, managing director at Stanbic Bank Uganda.

Experts say private sector credit growth, a key driver of economic activity, has steadily dropped since late 2015 — a trend that weighs negatively against strong consumer demand and tax revenue growth.

Poor credit growth, usually attributed to high lending rates and strict lending conditions, leads to limited spending power among consumers and fewer resources available for businesses willing to expand their operations.

READ: Uganda eases lending rate but borrowers not out of the woods yet

Economic outlook

Uganda’s economy grew by a revised 4.8 per cent in the 2015/16 financial year compared with an official target of five per cent, an outcome blamed on low government spending during the election season, persistent military conflicts in major regional export markets such as South Sudan and weak consumer spending experienced in several economic sectors, with the leisure and hospitality sector showing the worst signs of distress.

For example, economic watchers say that bars and restaurants in and around Kampala — where people generally have more disposable income — have closed shop since last year on the back of declining customer traffic, low sales and high overhead costs.

Hard economic times have also forced clothing and footwear shops, pay television providers and telecommunications firms to roll out aggressive campaigns announcing discount offers in the past six months in an attempt to improve sales.

Though average lending rates dropped from 25 per cent to 23.7 per cent between April and September this year, they subsequently rebounded to around 24 per cent as several banks struggled with increased credit risks during the post-election period, according to BoU research.

Private sector credit grew by just 0.8 per cent in August 2016 compared with 24.7 per cent recorded in August 2015 according to central bank data. A situation largely driven by a surge in credit default rates and bleak economic forecasts by commercial banks during the election cycle.

Headline inflation fell to 4.2 per cent last month, a figure that lies below the five per cent annual target.