On March 2, 2015, to stabilize the macrofinancial situation the Board of the National Bank of Ukraine has approved a series of decisions based on the recommendations of the NBU Monetary Policy Committee (hereinafter - MPC) regarding the need to tighten monetary policy.
During its meeting, the MPC has considered the monetary market situation, dynamics of macroeconomic indicators and possible scenarios of development.
In particular, a significant acceleration of headline inflation has been noted (to 28.5% year-on-year in January 2015). Price adjustment to the hryvnia devaluation was a key driver of the accelerating inflation. In general, the foreign exchange market in Ukraine has been under the stress primarily due to the negative expectations fueled by the military conflict in the East of the country. From the year start, devaluation of UAH/USD exchange rate came to around 80%.
Although the Ukrainian economy has faced extraordinary conditions, the said devaluation of hryvnia is considered excessive and inconsistent with the fundamental macroeconomic parameters.
The aforementioned has called forth the need to introduce, along with the administrative restrictions already in place, the following comprehensive measures of monetary regulation to curb the devaluation pressure on the hryvnia, lessen the monetary market stress and mitigate risks for price stability in the mid-term:
1) From March 04, 2015, rise in the policy rate from 19.5% to 30.0% per annum (Resolution No.154 of the NBU Board of March 02, 2015) with the respective adjustment of the interest rates on asset-side and liability-side transactions of the National Bank of Ukraine to regulate the banking system liquidity.
At the same time, to avoid adverse effect on the banking system stability it has been considered expedient to limit the policy rate impact on the cost of stabilization loans granted to banks, their cost will remain unchanged.
2) Higher reserve requirements for banks.
During the period from March 11 to April 10, the reserve requirements will be increased by approximately UAH 12 bln. which will reduce the spare liquidity in the banking system and will help to curb the devaluation pressure on the exchange rate. The key factor for such increase will be the revaluation of the funds raised in foreign currency. Since the increase in reserve requirements is too tough even for the current situation in the monetary market and it could complicate for banks servicing of the payments operations of their clients, it was decided to allow banks to include 100% of their cash balances in national currency (currently 50% is allowed) in reserves. This will allow to neutralize the impact of exchange rate factor on the required reserve amount to approximately USD 9 billion. Accordingly, the amount of required reserves that banks will have to create, will increase by approximately USD 3 billion (more precise figures will depend on the amount of attracted funds and the exchange rate before the next period). New reserve requirements will enter into force from March 10, 2015.
3) Using hard quantitative indicators of money supply in accordance with the previous agreements with the International Monetary Fund experts.
The MPC has also considered and approved the monetary aggregates targets previously agreed with the IMF under New Extended Fund Facility Arrangement. In particular, the maximum monetary base increase in 2015, aligned with the macroeconomic forecasts, was assessed at the level of UAH 91 billion.
The monetary program parameters are as follows:
- a significant part of increase in the monetary base will be due to provision of credit resources to the Deposit Guarantee Fund for compensation to depositors of liquidated banks in order to restore stability of the banking system;
- increase of domestic sovereign bonds in the NBU portfolio will be strictly limited, i.e. financial support to Naftogaz and the state budget will be minimized;
- sterilization instruments will be actively used to absorb excess liquidity in the banking system to level the inflationary and devaluationary pressure;
NBU profits will be transferred to the Sate Budget in equal installments and on the quarterly basis to prevent the destabilization of money and foreign exchange markets.
According to the National Bank experts, this set of measures, along with the administrative restrictions already in place, de-escalation of military conflict in the East of Ukraine and inflow of funds from the international financial institutions, will relieve stress in the foreign exchange market, reduce exchange rate volatility and create a trend towards one-figure inflation in the midterm. Once these trends will become stable and provided there are signs of macrofinancial stabilization, the National Bank of Ukraine intends to gradually ease the monetary policy and phase out the introduced administrative measures.
For reference
The next meeting of the Monetary Policy Committee will take place on March 25, 2015.