Most economists know that the Federal Reserve conducts monetary policy so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates. However, this is the so-called long run goal of the Fed policy, and the immediate goal is defined as maintaining long run growth of the monetary and credit aggregates in accordance with the long-term potential of the economy.
Section 2A of the US Federal Reserve Act literally reads: “The Board of Governors of the Federal Reserve System and the Federal Open Market Committee shall maintain long run growth of the monetary and credit aggregates commensurate with the economy’s long run potential to increase production so as to promote effectively the goals of maximum employment, stable prices and moderate long-term interest rates.
The activities of the National Bank of Ukraine are mainly aimed at maintaining price stability, referred to the relevant law. For example, Article 6 of the Law on the National Bank of Ukraine states that when exercising its function, the National Bank of Ukraine shall consider achievement and maintenance of price stability in the country to be its priority. In addition, the National Bank of Ukraine “promotes financial stability within the limits of its authority”, “the National Bank of Ukraine also promotes sustainability of the economic growth and supports the economic policy of the Cabinet of Ministers of Ukraine”, but provided that it does not prevent the price and financial stability goals.
In fact, the goals of financial stability and economic growth for the National Bank of Ukraine are quite hypothetical, and its officials have repeatedly stated their commitment to the price stability goal. This is also evident in the course of monetary policy, which the National Bank of Ukraine has been pursuing since 2016. This approach, however, looks rather questionable given the predominance of cost inflation in the economy, the spread of imported inflation and the non-functioning monetary policy transmission mechanism. It is known that tight monetary policy can theoretically curb demand-pull inflation, but only if the impulses of monetary policy are effectively transmitted through the transmission mechanism to the financial and commodity markets. Neither the first nor the second condition in Ukraine is met.
It is obvious that currently the increase in the NBU key policy rate cannot influence the prices of food and energy products (which are determined on the global markets), as well as mediate the redistribution of household income from consumption to savings, thereby reducing inflationary pressures. Significantly, household term deposits since the beginning of the period of raising the NBU key policy rate in 2021 have fallen by 7% in nominal terms, and taking into account the actual inflation – by 13%.
What is happening to monetary and credit aggregates in Ukraine, which are a target for the Fedand which are not of fundamental importance to the National Bank of Ukraine? Money supply M3 in nominal terms is growing slowly, but the saturation of the economy with money is falling. The ratio of the monetary aggregate M3 to GDP (the level of monetization of the economy) is declining this year. For example, if at the beginning of 2021 the monetization was 44% of GDP, then at the end of November it was only 38% of GDP.
The bank lending to the economy (performing loans) in absolute terms over the past year has increased by 27%, including to households – by 37%. However, more than 50% of the banks’ credit portfolios growth is due to state programs to subsidize bank loans (programs “Affordable Loans 5-7-9%”, package guarantees, “Affordable Mortgages 7%”). Sadly, the ratio of performing loans to GDP in Ukraine is at 15% and remains the lowest among emerging markets.
In many countries around the world, the support of a sound credit process is viewed in terms of promoting economic growth, financial stability and maintaining the banking business. The financial stability goal was included in the mandate of central banks in many countries after the global financial crisis of 2008-2009. Based on these legislative innovations, central banks began to create systems of macroprudential regulation and strengthen crisis management.
For instance, the Bank of England Act was modified in such a way that financial stability was defined as the general goal of the central bank, and price stability and support for economic policy of the Government became the primary and secondary objectives of monetary policy.
In China, financial stability has also become a common goal of the central bank, and monetary stability has become a goal of monetary policy. In Malaysia, the central bank’s principal objective is to “promote monetary and financial stability, which is aimed at providing a conducive environment for the sustainable growth of the Malaysian economy”.
In Ukraine, the goal of financial stability is also represented in the triad of goals of the National Bank of Ukraine. But the processes in the credit market of Ukraine in the perception of the NBU’s experts have nothing to do with achieving this goal. Back in 2015, the National Bank of Ukraine made Solomon’s decision to support banks not by reviving sound bank lending, but by issuing resources (issuing certificates of deposit). These actions were traditionally explained to society by the need to remove “excess liquidity” from circulation.
As a result of this policy, the average daily outstanding amounts mobilized by the NBU through certificates of deposit were over UAH 150 billion for January-November 2021. According to the Growford Institute estimations, the interest payments under NBU certificates of deposit to banks amounted to UAH 10.5 billion in 2020 and UAH 7.5 billion for 9 months of 2021. Thus, operations with NBU certificates of deposit provide an average 10% of total interest income for banks. This is an anomalous phenomenon in world practice, since the central banks that use certificates of deposit to manage bank liquidity pay very modest interest rates on this instrument, so as not to disrupt the normal motivation of banks to lend to businesses. For example, in Poland, the share of interest income of banks on certificates of deposit is only 2.5% of total interest income of banks.
According to international standards followed by modern central banks, interest rates on standing facilities (including certificates of deposit) are much lower than money market rates. Under such conditions, banks around the world use standing facilities of their central banks only in the absence of other alternatives and receive low interest income from these operations. For Ukrainian banks, since December 9 NBU certificates of deposit have yields of 8 and 9% per annum, which roughly corresponds to the average level of interest rates on term deposits and is equal to the level of short-term rates on the interbank market.
Not surprisingly, the NBU’s policy is favorable for banks and provides them with record profits. In January-October 2021, solvent banks operating in Ukraine increased their profits by 47% compared to the corresponding period of 2020. According to the NBU, solvent banks earned UAH 58.4 billion in net profit, compared to UAH 39.8 billion in the same period last year.
That is, the nature of monetary policy and financial transactions implemented by the National Bank of Ukraine indicate that the NBU is more a guide for financial capital interests than a “special central body of the state administration” that must guard the state interests and fulfill its mandate.
Doctor of Economics, Scientific Director of the Growford Institute Tetiana Bogdan for LB.ua.