What phasing out the prime lending rate would mean for consumers

There has been talk over the past few months of “phasing out the prime lending rate”, but most consumers do not know what that even means and what it will do to their cash flow. We asked Therese Grobler, head of wealth management at Momentum Financial Planning, to explain. “For over two decades the prime lending rate has dictated the cost of consumer finance in South Africa.

“Whether you were signing for a new car, a first home, ora personal loan, the conversation almost always revolves around ‘prime plus’ or ‘prime minus’. Yet very few consumers are ever encouraged to understand what those terms actually mean, orhow interest rates are constructed.” Speaking at Davos, South African Reserve Bank (Sarb) governor Lesetja Kganyago said the prime rate would potentially be phased out in line with the bank’s current reform drive. Grobler says while this might sound like technical jargon, it presents an important opportunity to improve how consumers understand the true cost of borrowing.

To understand the change, we have to look at the current “350 basis point” rule. In South Africa, there are currently two main rates. The repo rate is the interest rate at which the Sarb lends money to commercial banks (currently 6.75%).

[paywall]

The prime rate is the benchmark rate banks use to lend to the public (currently 10.25%). Since 2001, the gap between these two has been fixed at exactly 3.5% (350 basis points). If the Sarb increases the repo rate by 0.25%, prime automatically goes up by 0.25%.

Grobler says while this system made rate changes easy to follow, it also meant that many borrowers focus on the outcome (their repayment) rather than understanding how that number is assembled. The governor indicated that the bank would move toward a repo-plus model. Instead of using a middleman rate like prime, banks would price loans directly against the repo rate.

For consumers, this shift is less about higher or lower rates and more about clarity. Currently, the prime margin combines several factors into a single figure. “Under a repo-plus model, banks may explain lending rates more explicitly, showing how the base rate, risk and service costs contribute to the final rate you pay. This can help consumers better understand why two people may pay different interest rates, even when borrowing similar amounts.”

[/paywall]