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A SUSTAINABLE ECONOMY IS NOT BUILT ON REAL NEGATIVE INTEREST RATESThe NBR has to admit its irrelevance and turn into a Monetary Council

Călin Rechea
English Section /

Călin Rechea

Any builder worth their salt knows nothing durable can be built on a fragile foundation. Nevertheless, the "nine builders" of the Board of Directors of the NBR have affirmed precisely a message like this through their last cut of the monetary policy.

Unfortunately, the officials of the National Bank of Romania have not tried, even in the most evasive manner available, to explain in the press release what is the fundamental difference between the stimulating effect of an interest rate of 1.5% compared to an interest rate of 1.75%.

Stimulating lending and "forward guidance" of the expectations of the population and the economic agents? But how can one hope it will be different this time, especially when the so-called transmission networks of the monetary policy have a state that is comparable to Bucharest's heating grid?

Economics theories show that the effects of the decisions to cut the monetary policy are felt in the economy through transmission channels, such as lending, exchange rates, investment decisions, the price of financial assets or of the expectations of economic agents. The theory also says that the transmission of the monetary impulse is done with a delay that can be as big as a year, but it seems the luxury of having the time to wait no longer exists. In fact, the last decision of the NBR seems to indicate more of a "slight" state of panic.

A cut in the interest rate should stimulate lending, both for production and consumption and should, also theoretically, lead to a depreciation of the currency, with the effect of stimulating exports.

But how can lending be stimulated, amid unprecedented uncertainty and the beginning of a process of forced structural changes, which will become visible shortly?

The latest poll of the NBR concerning the lending to non-financial companies and the population, of May 2020, shows a tightening of the lending standards for both, and the banks' estimates showed the escalation of the trend in Q2 2020. The report also forecasts the drop in demand, especially for loans granted to the population and for long term loans granted to SMEs.

Not even for the depreciation of the leu, things didn't go as planned. Amid a drop of the monetary policy by 40% in less than six months, from 2.5% to 1.5%, the leu has gained 0.1% against the Euro. The strengthening against the USD nears 10%, whereas against gold it has weakened by about 25%. Where does that "miracle" come from?

Prior to the last monetary policy sessions, finance minister Florin Cîţu wrote on Facebook that Romania needs zero or negative real interest rates, without even considering that even the nominal negative interest rates had the expected effects in the developed economies.

Perhaps minister Cîţu was referring to the real interest rate on the government bonds, especially in the long term, because the real policy rate has been real-negative since October 2017.

As doubts over the effectiveness of cutting interest rates grow, a member of the Board of Directors of the NBR, Cristian Popa, said that there might be potential for easing for the monetary policy,

espectively by loosening the reserve of the minimum mandatory reserves.

Unfortunately, such a measure could not have any effect, even if it were accompanied by the cut of the minimum required reserves in lei (RMO), because the RMO rate does not represent a restriction for lending, as shown by several studies of some central banks over the last few years.

Concerning this statement by the NBR official reported by BURSA ("Cred că mai există potenţial de relaxare", 06.08.2020 - "I think there is still potential for easing"), one reader warns over a very grave concern pertaining to the beginning of the program for the purchase of government bonds from the secondary market.

"Since March 20, 2020, the NBR has been in a blatant conflict of interest", one comment shows, as many of the executives of the NBR have their wealth placed in government bonds.

According to the latest wealth declarations on the National Bank's website, first deputy-governor Florin Georgescu has a portfolio of government securities of 3.13 million lei, vice-governor Eugen Nicolăescu one of 103,000 lei, and Board of Directors member Gheorghe Gherghina one of 80,000 lei.

The acquisition of government bonds from the secondary market through printing, decided in the board meeting of the NBR, has strongly influenced these assets' prices, by creating an artificial demand, meant to push yields as low as possible.

Isn't there a need to urgently clarify this aspect and resolve the conflict of interest, through the immediate sale of the government portfolios owned by NBR officials?

The idea that a sustainable economy cannot be built with the help of real negative interest rates was recently analyzed by Patrick Artus, chief-economist of investment bank Natixis.

"Expansionist monetary policies inevitably lead to the distortion of the price of financial assets, of risk perception and the deformation of the relationship between the rate of interest and the economic growth", Artus writes, who questions "the need to use monetary policy as an anticyclical instrument".

The monetary easing measures also have the effect of "erasing the information provided by the price of financial assets concerning the situation of a company".

Artus' statement applies just as well, maybe even better, when it comes to the prices of government bonds, which no longer reflect the true solvency of the state.

After all of these measures to manipulate the perception of consumers and investors, central banks end up in the situation where the return to "normal" is impossible.

This subject is also discussed by Patrick Artus, who writes that "the central banks (ed. note: from the EOCD) are subordinated on two fronts": to the governments, because they need to monetize their fiscal deficits so as to maintain their solvency, and to the financial markets, for which they need to constantly provide liquidity to prevent their collapse.

"Once created this double dependency, we don't see how central banks can escape this trap", the French economist points out.

Through its policies so far, the National Bank of Romania has "succeeded" at least in creating dependence on the government, i.e. it has reached the unfortunate situation called "fiscal dominance", which is characterized by the impossibility of raising interest rates, because higher interest rates will lead to accelerated growth of public debt and budget deficit and will push the government into bankruptcy.

Every warning concerning the irreversible entry in the state of "fiscal dominance", in spite the many international warning signs were ignored by the monetary authority and by the government.

Even if central bank officials come up with statements on new monetary easing measures, decisions in this regard can no longer have positive influences. The harm has already been done and is too great.

Now there is almost no way back, even if an economic recovery where to occur in the sharpest V-shape possible, and all the National Bank of Romania can do is admit its irrelevance and recommend its transformation into a Monetary Council.

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Curs valutar BNR

18 Sep. 2020
Euro (EUR)Euro4.8582
Dolar SUA (USD)Dolar SUA4.0972
Franc elveţian (CHF)Franc elveţian4.5132
Liră sterlină (GBP)Liră sterlină5.3220
Gram de aur (XAU)Gram de aur257.4245

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