The best things in life are free (like money)

Is Santa Claus a central banker?

The National Bank of Kazakhstan, which manages the nation’s money supply, decided last week not to raise the interest rate at which it lends money to commercial banks. The annual refinancing rate is 5.5%, a historic low. In February 2012, the rate was 7.5%.

This decision is even more generous than it seems. The real value of money depends on what it can buy. When prices rise throughout our economy, the amount of goods that a thousand tenge can purchase falls. At present, prices are rising by roughly 7% per year (which is within the Bank’s target range). A bank that borrows from the National Bank must pay back the loan, plus 5.5% in interest after a year. However, by spending the loan immediately on goods, the borrowing bank avoided the price increase of 7%. So the loan was worth 1.5% to the borrower, even though it had to pay interest. It profited just by borrowing.

The National Bank’s largesse raises some problems. Since banks can make money just by borrowing from the National Bank, some will try to borrow all that they can. At the moment, this is not a concern, because the commercial banks in general are not too active. In 2012, they borrowed little from the refinancing window, the Bank notes. In fact, giving them money may help us, since they may turn around and lend it to businesses and households. This could spur spending in what, for Kazakhstan, is a phlegmatic economy, growing only 5% per year. But if the economy returns to its usual torrid rates of growth (on the order of 9% or 10%), then additional spending by borrowers may raise prices rather than output.

Buddy, can you spare a tenge?

The second problem is a bit more subtle. The refinancing rate can serve two purposes for the National Bank. One is to signal to lenders how active that the National Bank wants them to be. Lowering the refinancing rate is a way of saying that they should lend more. The second purpose is to provide banks in temporary trouble with emergency funds. The two aims don’t always coincide. The National Bank wants banks to step up lending, but not recklessly. In the last months of 2011, more than three years after the financial crisis, the total share of bank loans that were “standard” was only 25%. The National Bank says, charitably, that the banks in 2012 were recovering slowly.

The National Bank could clear things up by designing two policies for the two purposes. To stimulate the economy, the Bank could inject money into it by exchanging tenge for bonds from the public. It could then devote the refinancing loans to bank rescues.

The National Bank is indeed moving towards “open market operations” of bonds. But its main tool for managing the money supply remains the refinancing rate, probably because the bond market in Kazakhstan is still embryonic. Ironically, the market’s development is stymied by the anemic growth in Kazakhstan’s economy – the very problem that open market operations are supposed to resolve.   –Leon Taylor tayloralmaty@gmail.com


Good reading

National Bank of Kazakhstan. Monetary policy guidelines of the Republic of Kazakhstan for 2013. www.nationalbank.kz


References

National Bank of Kazakhstan. Statistical bulletin. Various years. www.nationalbank.kz

Silk Road Intelligencer. April 5, 2013. www.silkroadintelligencer.com