Changing tone
THE Bank of Jamaica’s (BOJ) Monetary Policy Committee (MPC) has become more hawkish in its tone to reflect the gradually different realities, more than six months after it increased its policy rate in September.
The MPC is responsible for determining the policy rate of the BOJ, which feeds into the financial system and sets the basis for interest rates in the country. The MPC members are the BOJ Governor Richard Byles, Senior Deputy Governor Wayne Robinson, Deputy Governor Robert Stennett, Dr Nadine McCloud, and David Marston. It was established almost a year ago when the BOJ gained its independence on April 19.
The MPC expected annualised inflation to reign between six to seven per cent at its August meeting where it evaluated the impact of exchange rate depreciation on inflation alongside an accommodative monetary policy, albeit with the need for a tightening of monetary conditions.
At its meeting last week, the BOJ reiterated its stance to pursue other measures to contain Jamaican-dollar liquidity expansion, including a more aggressive way to absorb it and maintain relative stability in the foreign exchange (FX) market. This was reflected through the increase in its policy rate to 4.50 per cent, the highest it’s been since June 2017. Point-to-point inflation for February was 10.7 per cent, relative to the annualised 5.2 per cent in 2017. It also began to limit securities dealers in the issuance of FX instruments.
These measures come at a time when money market rates have gradually risen to adjust for the change in the BOJ’s policy rate, but the transmission mechanism on interest rates on bank deposits and loans have been slow and cumbersome. The policy rate is the interest paid on overnight balances in current accounts of deposit-taking institutions. The aggregated closing current account balance decreased from $47.23 billion at the end of February to $29.21 billion as at March 17.
“Despite the downside risks to growth, the change in the BOJ’s policy tone is indicative of higher than previously expected price levels in the upcoming months and further economic recovery. According to the central bank’s Monetary Policy Review, it takes an approximate four to eight quarters for monetary policy to have an impact on the inflation rate. Therefore, to minimise Jamaica’s exposure to price shocks, the BOJ has begun radically safeguarding from the inflationary impacts that are anticipated in the coming months,” said research analyst at VM Wealth Management Melissa Foster.
“The Bank of Jamaica has been tightening Jamaican-dollar liquidity since early January 2022. This is, in part, a response to the Government of Jamaica (GOJ) pulling two instruments issued in the latter part of that month because of the relatively high bid yields that were accepted. Additionally, with inflation expectation remaining elevated, the Bank of Jamaica (BOJ) is resolute about reigning in inflation within its targeted range of 4 per cent to 6 per cent, despite price pressure being driven by external factors, which are beyond the bank’s scope of control,” said Jermaine Burrell, senior sovereign economist and sovereign research manager of JMMB.
The BOJ’s 180-day weighted average treasury bill yield currently stands at 6.37 per cent, which is in contrast to the 1.18 per cent in July. This has pushed up the cost of variable loan debt and will result in entities like JMMB Group Limited’s 2018 preference shares having a reset rate of 7.87 per cent, which is above the original rates.
“When the BOJ first raised rates by 100 bp in October, I have been on record as applauding their proactive posture in the management of monetary policy, locally. I also have shared that I expect this posture to be consistent with the times before us. That has not changed. As such, I believe they will adjust as the circumstances of the day dictate,” stated vice- president of investor relations at GK Capital Management Limited Ryan Strachan.
Despite the adjustment by the MPC, Foster believes that the actions by other central banks will lead to the BOJ’s decision to slow the pace of the rate increases. She said, “As the previous rate hikes take effect, we expect the BOJ to be less bullish and more infrequent with the rate increases. The rate increases from the US Federal Reserve and the Bank of England are also expected to abate inflationary pressures in those regions, which should also decrease the need for drastic interest rate movements beyond Q3 2022.”
While the BOJ continues to notice a slow reaction by the market to adjust its rates, Strachan sees the delay as a cautionary move by market participants in an inflationary environment, which is being followed by a period of economic stagnation caused by the novel coronavirus pandemic. Several corporate bonds in recent times have been done at rates above seven per cent and are expected to rise as investors demand greater rates to account for the rising policy rates.
“Regarding the credit markets, I believe everyone is in wait-and-see mode, given the reality of microeconomic vulnerability juxtaposed with a rising interest rate environment. I also believe this posture is appropriate as many among us simply afford sustained interest rate increases. The form of financing offered to individuals and companies may be open to disruption as well. Interesting times ahead,” Strachan said.
However, Burrell believes that the BOJ’s current aggressive approach to limit the secondary effects of inflation expectations and commodity shocks could put a strain on the economy, which is likely to face a slowdown later in the year. The MPC noted in its summary that the domestic fiscal policy poses no risk to inflation in the near term as the Government embarks on a targeted plan to assist the population with the gradual cost increases.
“Financial institutions are taking a wait-and-see approach with respect to increasing interest rates on the retail [individual client] side of the business. However, rates are inching up on the commercial side as the cost of funding rises. Across the market, it is likely that some credits in the pipeline may be delayed or even pulled as risks in the domestic economy rises and previously profitable projects become marginal. In fact, there was a slowdown in credit growth in 2021. With the signal rate as high as it is and the expected slowdown in economic activity in 2022, credit growth is likely to continue to slow even more and could fall. Thus, action taken by the BOJ could push the economy into a recession and do very little to curtail inflation,” the economist ended.