Overview
The National Bank of Ethiopia has extended to microfinance institutions a prohibition on the upfront recognition and payment of deposit interest and on the compounding of such interest with principal before maturity. The measure follows a comparable instruction issued to commercial banks in September 2026 and forms part of a series of supervisory interventions by the central bank in the area of deposit interest practices.
The Directive to Commercial Banks
On 9 September 2026, the NBE issued a letter to all banks directing them to cease calculating, recognising, and paying deposit interest upfront to depositors, and to cease compounding such interest with principal before maturity. The instruction applied to deposits including time deposits. According to the NBE, supervisory engagements had identified banks recognising and paying interest on time deposits in advance of the maintenance of the deposit balance and before the deposits reached maturity. The NBE referred specifically to a practice in which interest is paid on the first day of a deposit contract and added to the principal, allowing the additional amount to generate further interest and thereby increasing the recorded deposit balance without the corresponding passage of time or maintenance of the underlying funds.
The NBE characterised the practice as a malpractice and stated that it distorts the market, fuels unhealthy competition, creates opportunities for the misuse of public funds, and undermines the sound operation of financial institutions. The letter stated that the instruction was intended to safeguard financial stability, ensure fair competition, and protect the integrity of the banking system, and that further supervisory and enforcement measures would follow against non-compliant institutions. It is relevant to note that the instruction was issued in the form of a letter to banks rather than a publicly numbered directive, and the full text has not been published in the Federal Negarit Gazette at the time of writing.
The Directive to Microfinance Institutions
The NBE has now issued a similar instruction to microfinance institutions, prohibiting the recognition and payment of deposit interest upfront and barring the crediting of interest before deposits reach maturity. As with the bank instruction, the prohibition applies to deposits generally, including time deposits, and bars the compounding of interest with principal before maturity. The NBE has stated that supervisory engagements identified comparable practices among microfinance institutions and has warned of further supervisory and enforcement measures, in addition to any legal action, against institutions that fail to comply. As with the earlier bank instruction, the text of the microfinance instruction has not been published in the Federal Negarit Gazette at the time of writing.
Regulatory Context
The extension of the prohibition to microfinance institutions indicates that the central bank has adopted a sector-wide approach to interest-recognition practices rather than confining its intervention to commercial banks. Industry commentary has observed that the practice of paying and compounding interest before the underlying deposit has been maintained for the contracted period can effectively resemble the creation of deposit balances without a corresponding increase in underlying funds or economic activity, and that it may distort competition by conferring unwarranted benefits on selected customers. The NBE's stated concerns align with these observations, although the central bank has not published a detailed assessment of the scale of the practice, its quantitative effect on reported deposit balances, or the basis on which it determined that the practice warranted immediate prohibition rather than prudential guidance. Nor has the NBE published the legal basis on which the instructions rest, whether under the National Bank of Ethiopia Establishment Proclamation, the Banking Business Proclamation, the Microfinance Business Proclamation, or subsidiary directives issued under those instruments.
It is also notable that the instructions have been issued by way of letters to institutions rather than through publicly gazetted directives. This form of regulatory communication is not unprecedented in Ethiopian practice, but it has practical consequences: the precise scope of the prohibition, the treatment of existing deposit contracts, the transitional arrangements for institutions that have already recognised interest on an upfront basis, and the manner in which interest is to be calculated and recognised prospectively are not set out in a published instrument accessible to the public. Institutions subject to the instruction will have received it directly, but customers, auditors, and legal advisers seeking to verify the applicable requirements must rely on reporting of the instruction rather than on its published text.
Implications for Microfinance Institutions
Microfinance institutions operating in Ethiopia should review their deposit-taking and interest-recognition procedures in light of the instruction. In particular, institutions should verify that interest is calculated and recognised only by reference to the actual maintenance of the deposit balance and the passage of the contracted period, and that no interest is credited to principal before maturity. Institutions that have adopted the practice should consider the accounting and contractual consequences of discontinuing it, including the treatment of interest already recognised, the adjustment of customer agreements, and the need to revise system configurations and reporting. The absence of a published text makes it advisable for institutions to seek clarification from the NBE where the application of the instruction to particular products or arrangements is uncertain.
Implications for Depositors and the Market
For depositors, the prohibition may affect products that were marketed on the basis of upfront interest payments or interest capitalised before maturity. Depositors holding such products may wish to review their agreements and to seek clarification from their institution regarding the treatment of interest already credited or contracted. For the market more broadly, the prohibition may reduce the scope for institutions to differentiate their deposit offerings through the timing of interest recognition, which may in turn affect competition in the deposit market. The NBE's stated objective of ensuring fair competition is consistent with this effect, although the precise competitive consequences will depend on the extent to which the practice had been adopted and on the response of institutions to the prohibition.
Conclusion
The NBE has extended to microfinance institutions its prohibition on upfront interest recognition and pre-maturity compounding, following the earlier instruction to commercial banks. The measure forms part of a broader supervisory approach to interest-recognition practices and reflects the central bank's stated concerns regarding market distortion, competitive fairness, and the integrity of deposit balances. Institutions should review their procedures and seek clarification where the application of the instruction is uncertain. The absence of published texts for both the bank and microfinance instructions means that the precise legal basis, scope, and transitional arrangements remain to be confirmed through further regulatory communication, and stakeholders should monitor the position as it develops.
Disclaimer
This update is provided for informational purposes only and does not constitute legal advice. Clients are advised to seek specific legal counsel regarding their particular circumstances.
Hirko and Associates Law Office
Addis Ababa, Ethiopia