NBR delivered another rate cut today from 5.75% to 5..5%. It is the third consecutive cut in the key rate and a good moment to see how has this easing cycle transferred into the real economy. The main question is if these rate cuts get to the real economy. As you will see not immediately and definitely not via lower interest rates.
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Without further ado here are few interesting graphs.
The first one shows that NBR has introduced liquidity in the economy via REPO operations since November 2011. This is the good thing, the bad thing is that it does this at very short maturities of 7 days. Theoretically then we should see the effect only on the short end of the MM curve.
The injection of liquidity is seen in the daily volume of stock for MM liquidity especially in December 2011. However in January 2012 the volume is falling again in my view due to the big demand from the Ministry of Finance. Looking at interest rate, red line, we see that the easing of monetary policy has managed to lower them a bit but only to the level seen at the begging of 2011 when the key rate was 6.25% .
Looking now at the daily volume for MM transactions it is almost impossible to identify any effects from a more relaxed monetary policy. There is some effect on the interest rates for daily transactions but still the current rates are still above the level seen at the beginning of 2011.
Now we put the two together, volume for stock and transactions, and becomes clear that an easier moentary policy did not really impact the money market. Where did the money from REPO’s go?
In my view the extra liquidity pushed in the system by the NBR has been “sucked” by the Ministry of Finance. It will get back to the real economy once the MF will start making payments. However, we are seeing an interesting phenomenon that an increase in money supply is not mirrored in lower interest rates. There are two reasons for this:
-the NBR uses a very short maturity for its REPO operations
-banking sector prefers to transfer the extra liquidity directly to the ministry of finance. In fact the banking sector credits the MF first and then uses the T-bills/bonds to get liquidity from the NBR.
There are two ways to get out of this vicious circle. NBR could either lower the minimum reserve requirement or intervene to depreciate the currency. Both will show a permanent injection of liquidity and thus will have an impact on longer end of the curve and implicitly on credit interest rates.