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Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
Table of Contents
1.0
2.0
2.1
Theoretical Review...................................................................................................................... 2
2.1.1
2.2
3.0
3.1
Hypothesis.................................................................................................................................... 7
Regression .................................................................................................................................... 7
5.0
CONCLUSION ............................................................................................................................... 9
6.0
RECOMMENDATIONS ................................................................................................................ 9
REFERENCES .......................................................................................................................................... 10
APENDIX...................................................................................................................................................... 12
Table 1 ................................................................................................................................................ 12
Graph 1 ............................................................................................................................................... 14
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
1.0
The general objective of the study will be to establish the effect of interest rate fluctuation on the
performance of the Ghanaian economy. Specifically, the study seeks to establish effects of
interest rate fluctuation on business across all sectors of the economy of Ghana and to investigate
whether the relationship between interest rate and economic growth of Ghana is negative or
positive.
2.0
2.1
Theoretical Review
Noting the large body of literature on interest rates management, the crucial ones are the
classical, the loanable funds, the Keynesian and the modern theory of interest rate. The classical
theory (i.e. supply side through savings and demand side through investment) posits that, rate of
interest is determined by the savings and investment in a loanable fund market, (Hanson, 1951).
According to (Meltzer, 1976), the classical economists by their quantity theory of money
stipulates cyclical fluctuations in velocity are small, relative to changes in money supply (M) and
minimize the effects on velocity of interest rate or relative prices and output. So they indicate
that fluctuations in spending are entirely the results of changes in money.
Therefore the classical concluded that interest rate is only determined by the loanable fund
market whilst fluctuation in economic are influenced stock of money.
The Keynesian liquidity preference theory determines the interest rate, by the demand for and
supply of money, is a stock theory. It emphasizes that the rate of interest is purely a monetary
phenomenon. It is a stock analysis because it takes the supply of money as given during the short
run and determines the interest rate by liquidity preference or demand for money. It then implies
2
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
that Keynes regarded a low long-term rate of interest as a pre-condition to economic growth and
social advance (Hanson, 1951).
On the other hand, the loanable funds theory is a flow theory that determines the interest rate by
the demand for and supply of loanable funds. It involves the linking of interest rates with
savings, dishoarding and bank money on the supply side. However, this work is anchored on the
Keynesian theory. (Jhingan, 2001), noted that, the point that as income rises, the saving-schedule
shifts to the right does not give anyone a clear idea of what the rate of interest would be unless
one had already known the income level.
From the point of monetarists, Friedman stressed the role of other relative prices and wealth in
addition to interest rate affect economic activities through many channels (Meltzer, 1976).This
means that for the monetarists, economic growth is not only influenced by interest rate but other
factors such wealth and relative prices.
The existence of interest allows borrowers to spend money immediately, instead of waiting to
save the money to make a purchase. The lower the interest rate, the more willing people are to
borrow money to make big purchases, such as houses or cars. When consumers pay less in
interest, this gives them more money to spend, which can create a ripple effect of increased
spending throughout the economy. This creates a situation where output and productivity
increase.
The economic performance is judged by the stability in macroeconomic variables, such as its
exchange rate, rate of inflation, consumer price index, Gross Domestic Product, stock market
index and interest rates. It is the expectation of policy makers at both the macro and micro levels
in an economy that these variables would remain stable and favorable to sustain business growth.
Moreover, it is the wish of potential and existing investors that these macroeconomic elements
remain favorable so as not to threaten the returns of their securities.
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
Fluctuations in interest rate are determined by many factors which include the supply and
demand for credit, competition in the loanable market, and other economic factors, such as
inflation rate, expectation of investors, monetary policy of the government etc.
Interest rate movement is a major concern to all financial institutions and markets. It affects
decision making, performance, and growth of any particular institution (Madura, 1989). Changes
in interest rate and interest rates expectations affect the income and expenditure of these
institutions. Under normal circumstances, the intermediarys average yield on asset (loan) will
exceed the rate it pays to savers in order to attract funds. In fact, a positive net interest margin
must exist over a long term for a financial institution to remain in the business of borrowing and
lending money. But the maintenance of a positive net interest margin over time has been a
special problem for a number of financial institutions in recent years, due to volatile interest rates
as well as other factors like restrictive regulations, reckless management etc.
Ghana in 1988 launched a comprehensive Financial Sector Adjustment Programme (FINSAP), a
financial reform which involved institutional restructuring, enhancement of the legal and
regulatory framework for banking operations, and liberalizing interest rates (i.e. deregulated).
The interest rates deregulated was to encourage competition among the banks, and to conform to
the provisions of the Structural Adjustment Programme (SAP) of Ghana, where money supply
was used as the nominal anchor. Thus, the price of money (the rate of interest) should be
determined by market forces.
But in the current regime (regulated Regime), the Ghanaian economy at different times has
witnessed enormous interest rate swings in different sectors of the economy over the past two
decades. The preferential interest rates were based on the premise that the market, if freely
applied would exclude some priority sectors. Thus, interest rates were adjusted through the
invisible hand in order to promote increased level of investment in the various preferred
sectors of the economy. Prominent among the preferred sectors were the agricultural,
manufacturing and solid mineral sectors which were accorded priority and deposit money banks
4
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
were directed to charge preferential interest rates on all loans to encourage the upsurge of smallscale industrialization which is a catalyst for economic development (Udoka, 2000).
2.2
Empirical Review
Most researchers have adopted a moderate position in which a particular nations interest rate is
impacted by both domestic and global variables: nations are neither totally open nor totally
closed. The determination of interest rates and other resource returns are assessed inside the
framework of models of investment and savings behaviour at both the national and global levels;
the rate of economic growth is only one of several determinants of that balance. Nevertheless,
the basic reasonable structure highlights two critical empirical issues for modeling the
relationship between economic development and interest rates. First, is there a strong linkage
between the rates of return on physical and financial capital; and second, what is the relative
importance of domestic versus global variables in the determination of national interest rates?
5
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
Two theories interest most economists to predict the relationship between real interest rates and
growth rates. First, according to (McKinnon, , 1973) and (Shaw, 1973) financial repression
arises when a country imposes a ceiling on deposit. They conclude that alleviating financial
restrictions and letting market forces determine real interest rates leads to higher real interest
rates. Looking at their work it appears that higher savings is as a result of higher real rates of
return, which in turn enhances positive economic growth. Their study estimates that real interest
rates and economic growth rates have a positive relationship. Fisher, (1907) noted that intertemporal smoothing induces a positive relation between the interest rate and economic growth,
while saving induces a reduction in interest rate. (Barro & Becker, 1989) employed a standard
growth model where real interest rates were given by the inverse of the discount factor in a
steady state. They concluded that there is a long-run relationship between real interest rates and
fertility rates. In the long-run, as fertility rates decline, real rate of return also declines. This
model predicts a negative relationship between real interest rates and economic growth.
3.0
METHODOLOGY
The data for the study was mainly a quantitative of yearly GDP growth rate, obtained from the
World Bank, and treasury bill rate of 91-day as a proxy of interest rate obtained from bank of
Ghana.
The sample period spanned from 1988 to 2014. It consists of only 27 samples due to data
limitation on Treasury bill rate prior to 1988.
The study employed a time series analysis to examine the effect of interest rate fluctuations on
economic growth of Ghana (GDP). The data was analyzed interpreted and tested in order to
facilitate a valid conclusion.
Major statistical tools were used in the study was the simple regression statistical technique as
employed by Udoka and Roland (2012) in a similar study of the Nigerian economy
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
Where,
and
3.1
Hypothesis
Regression
Source
SS
df
MS
Number of obs
F( 1, 25)
27
21.3
7
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
Model
Residual
Total
lngdp
1.452829 1
1.704921 25
1.45282861
.06819685
3.15775 26
.121451918
Coef.
lnR
_cons
Std. Err.
-0.50812 .1100873
3.268516 .3505557
Prob > F
R-squared
Adj R-squared
Root MSE
P>t
[95% Conf.
-4.62
9.32
0
0
-0.734844
2.546533
0.0001
0.4601
0.4385
0.26115
Interval]
-0.28139
3.990499
with
and adjusted
. The
of 0.439 is also shows that the model is approximately 44% goodness fit. The
are both low due to limited sample size (reasons already provided) and other
and
cannot be accepted.
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
5.0
CONCLUSION
The analysis indicates that interest rate has a statistically significant growth in the case of the
Ghanaian economy. Thus high interest rate has a negative impact on economic growth. The
result above is consistent with economy theory and the existing studies on relationship on
interest rate and economic growth. The econometric results above further reveal that financial
crisis has a negative effect on economic growth in Ghana. This has been proved in other studies
such as Udoka and Roland (2012) who also concluded that there exist an inverse relationship
between interest rate and economic growth in Nigeria.
The focus of this study was on the effect of interest rate fluctuations on economic growth in
Ghana. Interest rate is therefore a determinant of economic growth as measured by GDP in the
Ghanaian situation. The result specifically leads to the conclusion that there is a direct
relationship between interest rate and the economic growth (GDP). Thus a 1% decrease in
interest rate will certainly increase economic growth by 0.508% all other things being equal.
6.0
RECOMMENDATIONS
Based on the results and discussion above, policy makers in the financial sector should not only
employ interest rate as a main tool for determining economic growth. Specific recommendations
include:
1. Interest rate should continually be liberalized in the Ghanaian economy.
2. Since there exist an inverse relationship between interest rate and GDP the central bank
should focus on reducing inflation to increase the output level in the Ghanaian economy.
3. The central bank should focus on improving financial innovation in arrears of payment
systems aimed at increasing savings, thus increasing amount of loanable fund that will
lead to reduction in the cost of borrowing in to spur up economic growth.
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
REFERENCES
Barro, R. J., & Becker, G. S. (1989, March). Fertility Choice in a Model of Economic Growth.
Econometrica(57), pp. 481-501.
Barro, R. J., & Sala-i-Martin, X. (1991). Convergence across States and Regions. Brookings Papers on
Economic Activity, 1, 107-179.
Blanchard, O. J., & Summers, l. H. (1984). Perpectives on High World Real Interest Rates. Brookings
Papers on Economic Activity, 2.
Fisher, I. (1907). The Rate of Interest: Its Nature, Determination and Relation to Economic Phenomena.
New York: The Macmillan Company.
Ford, R., & Laxton Douglas. (1999). World Public Debt and Real Interest Rates. Oxford Review of
Economic Policy, 15(2), 77-92.
Hanson, A. H. (1951). Classical, Loanable Fund, and Keynesian Interest Rate Theories. The Quarterly
Journal, 65(3), 429-432.
Jhingan, M. L. (2001). The Economics of Development and Planning (3rd ed.). Delhi: Vrinda
Publications (P) Ltd.
Kenyan National Bureau of Statistics (KNBS). (2011). Nairobi: KNBS.
Madigliani, F. (1944, January). The Liquidity Preference and the Theory of Interest and Money.
Econometrica, 12(1), 45-88.
Madura, J. (1989). International Financial Management (2nd ed.). St. Paul: Minnesota: West.
McKinnon, , R. I. (1973). Money and Capital in Economic Development. Washington DC: Brookings
Institution.
Meltzer, A. H. (1976). Monetary and other Expectations of the Start of the Great Depression. Journal of
Monetary Economics, 2(738), 455-475.
Shaw, E. (1973). Financial Deepening in Economic Development. New York: Oxford University Press.
10
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
Teriba, A. O. (1974). The Demand for Money in the Nigerian Economy: Some Methodological Issues and
Further Evidence. Nigerian Journal of Economic and Social Studies, 16(1), 153-164.
Udoka, C. O. (2000). Community banking as a catalyst for rural economic transformation in Nigeria.
International Journal of Social Science and Public Policy, 3 (2) , 175-182.
11
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
APENDIX
Table 1
Year
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
20.7
20.9
29.53
21.05
27.13
34.78
34.78
45.06
47.88
47.53
28.67
34.18
41.99
28.94
26.6
19.6
17.1
11.4
9.6
10.6
24.7
22.5
12.25
10.67
22.9
18.8
12
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
2014
4.16
25.79
13
EMMANUEL EBO ARHIN, WONDER ADETOR, FRANCIS OFOE LARTEY, PAUL ADOTEI ALLOTEY,FELIX B.BORKLOE, AGYEMAN M.P.Q AMPONSA,
MICHEAL FIADZOE, VICTOR EGHAN, ABDULAI BAAKO, ANDREWS K.FIADJO, AL-HASSAN ABDUL-BASIT
(MSc.Economics Students-2015)
Submitted
To
Economics Department - KNUST
Graph 1
60%
50
40
30
20
10
YEAR
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
14