Sunday, May 14, 2017
Sunday, May 7, 2017
Touching base
Why did the National Bank of Kazakhstan raise the refinancing rate?
On April Fools' Day, the central bank of Kazakhstan got wise to a
game played by commercial banks.
The National Bank raised the interest rate that it
charges private banks on loans, from 5.5% to 11% per year. This sounds
draconian, which was probably the commercial banks’ view of the matter. But it
was vital to the Bank’s modernization of monetary policy. I’ll explain.
In the West, most central banks manage the money
supply, and consequently affect the economy, by manipulating the interest rate.
Lower interest rates encourage firms to finance expansions with cheap loans;
households also expand economic activity.
To cut interest rates, central banks create money.
They buy securities in exchange for dollars and euros, which security sellers put into
their bank accounts. In turn, banks lend these deposits out, lowering their
interest rates to attract borrowers. If you
prefer, you can think about this monetary policy more directly: By purchasing
bonds, the central bank raises bond prices. This lowers their rate of return,
which is the interest rate.
Which interest rate do central banks target? The
short-run rate, since they want to affect the economy quickly. In the United
States, the Federal Reserve operates on the interest rate that commercial banks
charge one another on overnight loans, called the federal funds rate.
The counterpart in Kazakhstan is the base rate, which
is 11%. And now you see the problem. Commercial banks have little reason to
borrow from anyone at 11% when they can go to the discount window (jargon for borrowing
from the central bank) and load up on tenge for 5.5%, which has been the going
rate at the window since 2012. So when the National Bank cut the base rate, as
it did in February, it may not have elicited as much response from the economy as was possible,
because the commercial banks weren’t borrowing as much as they could have at
that rate, anyway.
The solution was to raise the refinancing rate (the
Bank’s term for the rate at the discount window) to the base rate. That’s what
the National Bank did on April 1. And, as the Bank notes, the refinancing rate
“is used in civil law and administrative-legal relations for charging
penalties, indemnification fines and in computation of the lost profits,” so it
makes sense to ensure that it reflects the true cost of holding or earmarking money.
The Bank’s new policy does incur a few costs. One
purpose of the discount window is to provide cheap bailouts to troubled banks,
since bank failures imperil the financial market. Emergency loans are more
expensive now. On the other hand, cheap bailouts tempt banks to take dangerous
risks, not an unknown occurrence in Kazakhstan.
Things could have been worse: In the hyperinflationary
days of 1995, the refinancing rate was 152% on a one-month loan. --Leon Taylor tayloralmaty@gmail.com
Good
reading
Jane E. Ihrig, Ellen E. Meade, and Gretchen C.
Weinbach. Rewriting Monetary Policy 101:
What's the Fed's preferred post-crisis approach to raising interest rates? Journal
of Economic Perspectives. Fall 2015.
References
National Bank of Kazakhstan. On convergence of the
official refinancing rate and the base rate. Press release. www.nationalbank.kz March 6, 2017.
National Bank of Kazakhstan. Statistics.
www.nationalbank.kz. May 7,
2017.
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