Productive credit push

In this exclusive interview with Capital, economist and banking expert Eshetu Fantaye examines the National Bank of Ethiopia’s shift from bank credit caps to a reserve requirement-based framework, arguing that the real test will be whether lending is redirected toward productive sectors rather than government debt and speculative activity. Excerpts;

Capital: The National Bank has lifted the credit cap for banks. What impact will this decision have on the sector?

Eshetu Fantaye: That is a critical question. Access to transparent, granular financial data remains a challenge. If we see reports claiming a 24% disbursement rate, it is highly improbable that this is directed toward the private sector. It is more likely inflated by investments in Treasury bills and bonds. Currently, the monitoring of these figures is aggregate, which masks the reality. If government debt instruments are counted toward credit growth targets, then surpassing these caps is inevitable.

In practice, only a few major institutions—most notably the Commercial Bank of Ethiopia—possess the liquidity to simultaneously manage foreign currency requirements and heavy investments in government securities. While the decision to lift the cap is conceptually sound and offers necessary flexibility to capable banks, its success depends on implementation. If banks do not integrate a rigorous assessment of “supply impact” into their credit approval process, simply removing the cap will not achieve the desired economic outcome.

Capital: Are there parallels between the current climate of intervention and the restrictive, individually managed approach seen in 2009? What is your view regarding the new scheme for controlling credit growth and containing inflation?

Eshetu: The parallels exist in the mindset, but the mechanics are different. That earlier approach had a profound impact on banks’ decision-making processes. From a financial perspective, investing in Treasury bills and bonds is highly attractive for banks: it requires no provisioning (unlike private sector loans), and government exposure is treated as a sovereign asset, essentially risk-free.

This creates a systemic bias. Without explicit incentives or clear policy mandates, there is no guarantee that banks will shift their internal risk allocation away from “easy,” collateralized government debt toward the productive sector. Until the Ministry of Finance and the National Bank align their strategic thinking with long-term revenue generation rather than short-term borrowing, this institutional bias will persist.

Capital: You have often characterized the government’s relationship with credit as an “addiction.” Could you elaborate on why this focus on domestic borrowing is problematic compared to private sector lending?

Eshetu: Precisely. When the government focuses on domestic borrowing through bills and bonds, it is essentially just receiving a loan—it is a closed loop. However, consider the alternative: if that capital were directed toward exporters, manufacturers, or SMEs struggling with working capital, the economic multiplier effect is significant.

When a manufacturing company expands production, the government doesn’t just get a loan repayment; it generates a diverse, recurring tax revenue stream: VAT, withholding tax on transactions, payroll taxes from new hires, and pension contributions. This is what I call the “snowball effect.”

Currently, this year’s budget relies on 329 billion birr (14%) in domestic borrowing. If that sum were instead channeled into productive credit—working capital for import substitution or export expansion—the resulting tax revenue for the Ministry of Finance would be far more sustainable than the current reliance on debt. Unless the budget is visualized through this lens—where credit to the productive sector acts as a catalyst for future tax capacity—the reliance on domestic borrowing will remain difficult to break.

Capital: Given this, what is the role of the National Bank? Should we expect a return to a command-economy model where the regulator dictates lending quotas to individual banks, or are there more subtle levers available?

Eshetu: The National Bank neither should nor needs to direct individual banks on lending decisions. It possesses powerful monetary instruments, such as reserve requirements, which can be used as a lever. For instance, it could incentivize banks to lend to agriculture, manufacturing, and exports at favorable rates (e.g., 10–12%) by allowing them to utilize a portion of their required reserves.

This is not a subsidy; it is “operational orchestration.” The challenge lies in ensuring the IMF and other international partners understand that these are targeted monetary tools designed to correct market failures, not artificial subsidies. This approach requires sophisticated monitoring and evaluation skills.

Capital: If lending caps are lifted, how can we ensure that funds don’t simply flow into non-productive areas like real estate or retail trade?

Eshetu: That is the crux of the issue. If banks, after caps are lifted, channel funds into real estate, wholesale, or import-focused retail trade, the inflationary impact will be identical to that of domestic government borrowing.

However, if that capital enters the productive sector—manufacturing or export-oriented industries—the impact is transformative. It creates structural change by easing supply-side constraints. When the Central Bank shifts its focus from merely managing the “money supply” to monitoring the “quality of credit distribution,” the results will be profound. We must move away from a culture that prioritizes easy, import-driven returns and toward an ecosystem that rewards value-added production. Lifting the cap is a vital first step, but it must be paired with disciplined, productive-sector-focused credit policy to be effective.

Capital: Isn’t the National Bank of Ethiopia’s new strategy of controlling banks through reserve requirements just a return to the approach used in 2009?

Eshetu: Look, whether we like it or not, our current instruments for controlling inflation are price-related, and any market “swing” will have a significant impact. You can only withstand this by expanding supply. If you fail to do so, the resulting volatility increases the government’s debt repayment burden.

Why? Because as market prices rise, you are unable to break the cycle where domestic returns are driven by simple, non-productive activities. Consequently, you cannot stop imported inflation or inflation driven by rising local production costs. It is a vicious circle.

The path currently being taken is the correct one. Authorities understand that they must continuously monitor credit allocation. Are loans going to the productive sector? By ensuring they do, you expand supply, increase tax capacity, and reduce domestic borrowing. Simultaneously, this strengthens your ability to maintain price stability. In 12 to 24 months, as the system stabilizes, we will be in a much better position than we were during the “cap” period.

Regarding the “cap,” it simply allowed banks to lend to whomever they chose, often relying on existing, relationship-based lending. If a stranger approached them for a loan, they would often turn them away, citing risk assessment. The question is whether the current method will change this behavior, as the bank is effectively saying, “I will control you through a different set of levers.” That is my primary concern.

The challenge you are raising is one that countries like Tanzania, Rwanda, and Uganda have faced. They didn’t overcome it through a “cap”; they succeeded by fine-tuning the monetary instruments already at their disposal.

Capital: Given the high liquidity compared to the mandatory reserve, the changes in interest rates, and the pressure on “idle” funds, what is your outlook for the market?

Eshetu: This is precisely why I stress that success hinges on operational orchestration, skill, and discipline. The mere presence of liquidity in the system doesn’t dictate bank behavior. I always adopt a CEO’s perspective: if I were in that position, what would I do?

In a credit-capped environment, the focus shifts from who to lend to to which loans will generate a return with the least hassle. Currently, Treasury bills offer 10-11% returns, while most banks’ average cost of funds hovers between 4.5% and 5.5%. If the net interest margin on government T-bills is 11.5%, you’re looking at a comfortable 6% net margin every few months—without the need for provisions. As an operations manager, my priority would be to acquire these T-bills and bonds. However, this strategy fuels domestic borrowing and crowds out the private sector. The only private sector loans that survive are “safe,” collateralized, and relationship-based—often in trade or imports, which are inherently inflationary.

Reversing this trend—by mandating loans to the productive sector, regardless of the cap—is what reduces domestic borrowing and boosts the Ministry of Finance’s tax collection capacity. Operationalizing this requires internal capabilities, such as a standardized system for reporting credit disbursement by sector.

When all banks report their credit disbursements using the C-code, the flow of money becomes transparent. If it’s directed towards trade or import financing, it’s inflationary. If it goes to productive sectors, it expands supply, generates revenue for the Ministry of Finance, and lessens domestic government borrowing.

If authorities genuinely implement this, the outcomes will benefit everyone. However, if this is merely a temporary “tick-the-box” exercise to satisfy IMF conditionality—a way to claim “mission accomplished”—then we’ll see inconsistent results. It’s like students: some study out of internal motivation, while others only do so under duress.

We aren’t undertaking this for the IMF; we must do it to “clean house,” shield our citizens from inflation, and foster productive employment. The Ministry of Finance and the Central Bank must fully grasp that domestic borrowing harms the economy, whereas productive sector lending strengthens it. They must move beyond mere “lip service” and ensure these policies translate into actual, daily practice.