Pada and the BoM had argued that “ …the job of central banks is the pursuit of price stability, not profit maximisation.”
Typical Central Bank’s response : there is no cause for concern. They can always print money !!!
They also argue that other CBs are also making losses.
Indeed, as pointed out in the recent FT article titled “Test for central bank credibility looms on likely bond losses” - “The supposedly clinching argument for insouciance is that several central banks, including those of Chile, the Czech Republic, Israel and Mexico, have operated without difficulty despite having negative accounting equity in their balance sheets for prolonged periods”
But it adds that “they did so because of their credibility on monetary and financial stability at the time.”
“The one inescapable fact is that central banks cannot recapitalise themselves in the event of insolvency through seigniorage without generating unacceptably high inflation. The view that they can always print their way out of trouble is simply an illusion. Central bankers anyway do worry about their balance sheets because they are nervous of market perceptions ……In some cases this concern is formalised. The European Central Bank, for example, requires national central banks in the monetary union to avoid prolonged low or negative equity.”
A recent paper by Paul Wessels of De Nederlandsche Bank and Dirk Broeders of Maastricht University argues that adequate capital is necessary to maintain confidence that the central bank is effective in implementing monetary policy and is able to absorb financial risks independently of government.
That’s why IMF had recommended that BoM be recapitalised as per its per its existing legislation to enable the Bank to accommodate the monetary policy costs. It had also recommended a reform of the BOM law to prohibit central bank’s transfers to the government and quasi-fiscal financing and the relinquishing the BOM ownership of the MIC.
We cannot compare ourselves to other CBs…For instance the Czech national bank had at one point in time negative capital and reserves but that was due to credible monetary policy which brought about an appreciation of the króna.
Here we have depleted our Special Reserves Fund, we had recourse to excessive money printing to finance Govt expenditures, there’s excess domestic liquidity with exceptionally low short-term interest rate not aligned to the Repo rate, rising inflation expectations, an overvalued real exchange rate , elevated levels of the Budget Deficit and Public Sector Debt, …and most important of all there’s the need for a more pronounced monetary policy tightening to achieve price stability…For that, we need a credible Central Bank that can convince markets that its monetary policy is effective in achieving price stability.
But the BoM does not have enough resources to sustain tightening policy costs of higher interest rates and increased sterilization amounts.
IMF had warned that BoM may fail in achieving price stability if the government does not increase the BoM’s capital and the BoM has to limit expenses on domestic liquidity sterilization. “Delayed tightening will inspire unanchoring expectations and more inflation…”
That’s why the recapitalisation of BoM is an urgency. It will strengthen the central bank’s operational independence and financial position and restore its credibility.
The statements of Pada and BoM have failed in changing market perceptions….!
