Why does National Bank play with monetary grenade?

Author : Oleksiy Kushch

Source : 112 Ukraine

Already this comparison gives us an opportunity to understand: we’ll see nothing positive from the use of "monetary grenade", but many people could be hurt by the shrapnel.
22:53, 14 February 2018

112 Agency

Consumer prices in January this year increased by 1.5% compared to the previous month. A year earlier, this indicator was at 1.1%. If you evaluate the consumer price index on an annual basis, it was 14.1%. It is not difficult to see that the rate of inflation accelerated significantly compared to last year. Even sadder is the dynamics of industrial prices. There is generally a problem: the increase in price indicators in 2018 was already 4.4%, although last year industrial prices even deflated - minus 0.3%. It should also be noted that this is a kind of record if compared with the indicators of 2017: last year, the maximum index of industrial inflation was reported in March and amounted to 3.5%.

This lyrical introduction is necessary for us to understand the obvious truth: an increase in the discount rate of the National Bank to the level of 16%, which was "consecrated" at the Presidential Administration on January 26 this year, is not the last increase.

In general, all the best in the recent history of the economy (if you note separately the last four years) has already happened. As applied to the Ukrainian economy, this answer would sound something like this: "the best times are already over." And it's not about the notorious 2013, with which experts now compare all the statistical indicators, from birth rate to the parameters of GDP. It is about 2016-2017, when the dynamics of hryvnia compared to dollar, and inflation indicators were quite tolerant. But there is no merit of the current state power bodies. It's just world commodity markets have made the situation: relatively cheap oil against the backdrop of growing prices for the goods of traditional Ukrainian imports (ore, metal, grain and sunflower oil). This favorable pricing environment was very well experienced by our Ukrainian financial and industrial groups, which put in their pocket more than one  billion dollars. Yes, at the same time, they did not forget about the 120 billion UAH refund for the value-added tax. Which was paid, of course, at the expense of the state budget.

And people also felt this growth - in the form of inflation. Indeed, the increase in prices for energy carriers and raw materials ultimately led to higher prices for products with a higher level of added value. So everyone got his own: oligarchs - profit, people - inflation.

And what about the National Bank, which was supposed to equalize this unfair price redistribution of public revenues?

At the meeting of the Committee for Monetary Policy, which was held on January 24 of this year, the overwhelming majority of its members called for an increase in the discount rate by 1.5% - to 16%, which was a kind of record: lately, the base rate was raised less aggressively - by 1% , however, in fairly short intervals.

The fact that the National Bank decided to move to aggressive monetary influence on inflation, suggests that there is a minimal desire to do something in this sphere. But the regulator stubbornly continues to play the role of a one-armed boxer, not understanding the obvious: in conditions of rising fuel and raw agricultural products prices, it is impossible to control inflation solely with monetary instruments. It is necessary to introduce a new exchange rate policy, and it is not a primitive fixed-rate model. We need a currency corridor using the "Snake in the Tunnel" method and the maximum use of any contributing factors to strengthen hryvnia. Without the revaluation of the national currency, it will be impossible to stop the price tsunami. To effectively combat inflation, the bank needs both hands: monetary and exchange rate policy.

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Among the unpleasant signals we can note the growth of core inflation to 9.5%. As is known, the index of broad base inflation includes prices for food products with a high level of processing, prices for non-food products with the exception of fuel, the cost of services different from administratively regulated. And this is the fundamental price shock made by the regulator: if in 2017 we saw mainly non-core inflation, that is, fuel, administratively regulated services and tariffs, as well as prices for unprocessed agricultural commodities were growing, then at the beginning of this year this price dynamics as a dangerous virus moved to the "floor above" - in the structure of core inflation. Thus, prices for raw goods increased last year were included already this year in the structure of the cost price of goods with high added value. As we already noted, this could be avoided only with the help of a more courageous revaluation of the hryvnia exchange rate last summer.

In 2018, the National Bank is still waiting for a macroeconomic response to a set of measures of influence applied by it. For example, the inflation rate is 8.9% (although at the end of last year the forecast of price dynamics was significantly less - 7.3%), while the core inflation should be 8.2%. Given that the annual inflation rate has already accelerated to above 14%, it will be extremely difficult to do this: in the case of the economy, all can end bad – with the complete destruction of the emerging sprouts of sluggish economic growth.

The current increase in the discount rate indirectly confirms these negative signals that come from the real economy. At the beginning of the year, exports and foreign exchange earnings of the domestic market fell sharply. The first statistics on GDP growth, industrial production and the index of agricultural producers may be slightly stunning.

By the way, in the monetary policy committee of the National Bank of Ukraine was "one who did not shoot," that is, voted against. Although it is loudly stated: the monetary "insurgent" simply offered to increase the discount rate as usual, by one percent. Due to the fact that such radical decisions of the NBU will be misinterpreted by a business that does not expect this. Such opposition can only be compared with the rebellion against the king.

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By the way, most of the participants in the Monetary Policy Committee unanimously agreed that there is a possibility of a further increase in the discount rate in the short term. Between the lines it was read: infinity is not the limit, and new heights in the form of a discount rate of 17-18% are just around the corner. At the same time, the National Bank functionaries always emphasized the continuation of cooperation with the IMF as a key element of monetary policy easing / tightening: in the case of a credit program breakdown, a more stringent monetary policy will be implemented, and after renewal we’ll see a light version. Although the tranches of the IMF have the same attitude to our inflation as the snowfall in the US.

It looked like an undisguised blackmail of the government and directly the Prime Minister Volodymyr Groysman, for whom the economic growth in 2018 is akin to Hamlet's "to be or not to be."

After all, if GDP growth exceeds 3.5% this year, it will be regarded as a great victory, not inferior in its historical significance to the Konotop battle, which, however, did not have the victory. But it does not matter - the economic growth, the highest for the post-revolutionary period, is the background, with which you can go to elections in 2019 and receive at least a certain percentage of the budgetary electorate.

That is why in the press release of the Committee on Monetary Policy meeting sounded a hidden threat - to tighten monetary policy "more significantly." The likelihood of mitigation was assessed at a very low level. Given the degree of influence of external forces on the managerial decisions of our regulator, we get a good correlation of cause-effect relationships. Adopt the requirements of the IMF and get a reduction in the discount rate.

The prime minister could not help reacting to such a monetary action. Already on January 31, he announced the need to reduce the discount rate for the resumption of lending to the economy. By the way, in this matter he is unlikely to find understanding from Yakiv Smoliy. After all, the National Bank is confident that the monetary impact on the economy due to the increase in the base rate will be limited due to the extremely low rates of new loans issued to the subjects of the real sector in the economy. And this has its own truth: if in 2013 the ratio of net loans to GDP was 40%, then in 2017, it was 15%, which is an extremely low indicator characterizing the total decay of credit activity. But it is necessary to do something to this credit collapse, because the enterprises cannot develop for the fifth year exclusively on their "turnover" and the stocks of owners. And to do "something" when you have a discount rate of 16% is very difficult: 99% of credit agents will lend either the state through the purchase of government bonds or the National Bank, buying its certificates of deposit.

True, the premier was supported by the head of the National Bank Council Bohdan Danylyshyn, who has long promoted the idea of a Keynesian model of stimulating economic growth, a kind of monetary "Ukrainocentrism." But his voice remained unheard by the Presidential Administration.

By the way, 16% - is it much for the discount rate? Suffice to say that in 2009, after the global financial crisis, it did not exceed 11%, but in 2014-2015 it reached 30%. And now you can compare inflation rates in those years and the speed of economic recovery, and this comparison will not be in favor of the current functionaries. What once again says that the discount rate in the NBU arsenal is, rather, a grenade in the hands of the monkey, than an effective tool for containing inflation or stimulating economic growth. Already this comparison gives us an opportunity to understand: we’ll see nothing positive from the use of "monetary grenade", but many people could be hurt by the shrapnel.

Perhaps Ukraine needs a separate body, a certain Treasury (the structure responsible for open market operations), which could finally coordinate the policy of the government and the National Bank with respect to the exchange rate and price dynamics, which is most conducive to economic growth, the inflow of foreign direct investment, which stimulates domestic investment. And, most importantly, such a policy should be aimed at the gradual elimination of social inequality in society by increasing the indicators of real income of the population. Maybe then we would finally stop forever wandering around the "Möbius strip" of our mistakes and come out of this bewitched closed curve.

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