ON Wednesday afternoon, May 22, I was startled by an online headline of the Jamaica Observer that stated ‘NCB, BNS continue to frustrate inflation fight — BOJ’. So I quickly checked the BOJ website for the speech and realised that the governor did not name the institutions as stated in the newspaper. The governor then went on to speak of the volume of savings deposits of the dominant players which are not sensitive to interest rate movements. He also noted that there was a lack of competitiveness in this area in the financial sector.

While I was happy that the governor spoke of the impact of one form of deposit not being sensitive to interest rate movements and the lack of competitiveness affecting the implementation of monetary policy, through the monetary transmission mechanism, I was a bit disappointed that he never fully covered the matter, as a significant variable (demand deposits) remained untouched in his presentation. I am suggesting that there should be a review of a government policy that gives preeminence to the variable which contributes to weaknesses in the transmission mechanism.

Commercial banks are mainly funded by customers’ deposits. These include certificates of deposits, otherwise called time deposits, savings deposits, and demand deposits also known as current accounts. Time deposits are usually placed by customers for a specific period of time and for a fixed interest rate on those funds, hence these deposits are sensitive to interest rate movements. Savings accounts are usually set aside for ‘rainy days’ or emergencies, and the primary need is that the funds must be available at any time, therefore, interest rate is not the main reason for keeping these funds. Hence, as noted by the governor, they are not sensitive to interest rate movements. Demand deposits are transactional in nature and persons want their funds to be available when undertaking a transaction for which there may be uncertainty in timing, hence they are not sensitive to changes in interest rates, similar to savings deposits.

This is where my disappointment in the governor’s speech lies as demand deposits were not mentioned yet they form 38 per cent of total Jamaican-dollar deposits. (see Table 1, below)

That is, one of the BOJ’s avenue of transmission of monetary policy interest rate is really directly affecting only 18.6 per cent of the commercial bank market at March 31,2024. Hence, as noted by Governor Byles, it would require a massive increase in interest rates for there to be an impact on the whole economy. It is therefore worth drilling down on a significant part of demand deposits and its impact on the implementation of monetary policy in Jamaica.

The title of the Observer article regarding NCB and BNS, however, was very insightful as it refreshed my mind to Ministry Paper No. 16 (Ministry of Finance and Planning, 1991) Improving Fiscal Management.

Ministry Paper No.16 outlined government policy with regard to banking facilities for central government. The policy transferred government expenditure clearing accounts from Bank of Jamaica to BNS, NCB, Mutual Security Bank – which was subsequently taken over by NCB – and Workers Bank. By Circular No 10, dated July 1, 1992, these accounts were to be funded by warrant releases from the Ministry of Finance, as required, and should be reconciled on a fortnightly basis. Circular 16, dated November 30, 1992, went further and stated that the commercial banks will be funded by transfers from Bank of Jamaica for new accounts. It is clear that the intention of Government was to operate a system, similar to an imprest system, of reimbursing commercial banks for expenditure incurred by public enterprises.

From the balances of central government deposits maintained in commercial banks over the past 30 years it appears that the imprest system was not implemented and instead the revenues of Government were held in commercial banks to meet government expenditure. This means that excess revenues are held in commercial banks rather than in the Bank of Jamaica. So, for over 30 years the policy has protected both NCB and BNS from competition. And while it is welcomed that Governor Byles noted that there is a lack of competition in the market for savings deposits, he should similarly note the lack of competition for demand deposits in the market, as the current policy of the single-largest depositor – the Government of Jamaica (GOJ)– is that its main accounts in which taxes and other government receipts are held should be with NCB and BNS. Further, these balances are held mainly in non-interest sensitive bank accounts and are significant to the system. (see Table 2, at left).

The action of the Government inhibits competition as it designates what institutions should hold government funds. This action has not only affected competition but also the availability of liquidity, which affects BOJ’s management of the economy.

The greater impact, however, of Government’s banking policy is in the application of monetary policy.

Firstly, the practice of keeping Government revenues in commercial banks diminished the role of BOJ in the operation of the interbank market for the management of daily liquidity, which plays a significant part in the pricing of interest rates. The BOJ policy rate has become a notional figure where the BOJ signals where it would like interest rates to be, as opposed to it being a real rate that it uses to lend to or withdraw funds from the interbank market.

Secondly, by keeping daily tax revenues to Government in one or two commercial banks, this sometimes leads to excess liquidity in the market. To address this, the BOJ developed an instrument called the certificates of deposit which it uses to mop up excess liquidity. But liquidity is not evenly distributed in the market, as the Government preferred banks would be awash with liquidity from daily tax receipts while other banks would be short on liquidity. So the one or two banks with liquidity can demand higher rates of interest from those that are illiquid or just sit by and await the issuance of BOJ certificates of deposit (CDs).

Thirdly, finding the appropriate interest rate level will always be a challenge. The BOJ policy rate is an indicative rate which is short term in nature and should signal to the market where interest rates for overnight and interbank trading for liquidity ought to be. This, however, rarely occurs due to the imbalance of GOJ deposits being held in two commercial banks rather than in the central bank, as interbank trading and the price-setting mechanism has been disturbed. When BOJ issues certificates of deposits they are issued at a specific rate for a specific time period, that is the central bank has become a market competitor for customers who wish to purchase certificates of deposit. For the less-preferred banks (i.e. with little or no government deposits) the BOJ CD rates become the benchmark for the pricing of their own deposits. They now have to compete with BOJ to keep their customers that are interested in an instrument that is issued for a specific rate and for a specific time period. On the other hand, banks that are preferred with significant amounts of government deposits on a daily basis have no inducement or need to support the interbank market as Bank of Jamaica certificates of deposit will become available. These preferred banks with free government deposits are therefore the beneficiaries of the higher rates (income) while the non-preferred banks have to pay increased costs on their own CDs. This also removes the need for the preferred banks to raise their interest rates on loans.

Lastly, as a country, the Government of Jamaica has handed over its assets (cash) to two commercial banks with little or no return as the majority of funds are kept in demand deposit accounts. These same funds result in excess liquidity from time to time yet the Government of Jamaica, through BOJ, pays to harness or mop up these funds – that is, its own funds. Further, Bank of Jamaica certificates of deposit are classified as borrowings of the country, thus a liability has been created instead of having an asset. The liability has an attendant interest cost which the country incurs but has this payment resulted in any increase in output? Was any value created? Could the impact of the interest cost on BOJ CDs be a portion of inflation that seems uncontrollable?

So, Governor, your speech is very welcomed as you have touched on a vital part of monetary policy. It would be good for your research department to share with the public their impact study of Ministry Paper No. 16 Improving Fiscal Management on the Implementation of Monetary Policy in Jamaica (Ministry of Finance and Planning, 1991).

Without the benefit of your department’s findings it may appear that the entire government revenues should be returned to the BOJ, where the central bank would be better able to apply a significant aspect of its monetary policy.

Dr Archibald Campbell is a fomer lecturer in risk and treasury management at The University of the West Indies, Mona.