Yevhen Stepanyuk: The refinancing rate is always a compromise

The National Bank reviewed its macroeconomic forecast on 25th October. The foreseen inflation rate was raised to 10.1%, while the refinancing rate remained unchanged. What kind of message is the NBU sending to the market?

You are right, the forecast inflation rate was raised by 1.2%. The refinancing rate remained as before, at 18%. The National Bank’s management has been raising the refinancing rate at intervals for quite a long time. Last year’s figure was 13.5%. Considering this fact, as well as the expected inflation dynamics over the next 12 to 18 months, the management has estimated that the refinancing rate is currently high enough to ensure that inflation reaches the mid-term goal of 5% by 2020.

The rate always represents a compromise between the objectives of the National Bank. These are currently clearly prioritized as follows: 1) price stability; 2) financial stability; 3) economic growth. It is regarding these goals that the acceptable refinancing rate is established for a certain period. The current 18% rate will provide a healthy balance between the necessity to lower inflation to the target level and the need to support economic growth.

It should be mentioned that strict monetary policies are not the only kind of signal the management has sent to the market in its official communication. The National Bank is deploying a proactive policy. This means it considers expected inflation dynamics when making decisions, rather than past data. Therefore, the NBU also communicates the risks to inflation reduction that it foresees.

Ukraine, as a relatively small open economy, is affected by global processes, such as the situation in foreign markets and the general dynamics of the world economy. We are influenced by policies determined by global state players and their central banks. The Federal Reserve System of the USA and the Bank of England are raising interest rates, the European Central Bank is winding down its quantitative easing program. Consequently, developed countries are becoming more attractive for investors. This means investment is ebbing away from developing countries.

Apart from the investment drain from developing countries, the management also stressed the risks associated with the increased speed of the global economy cooldown, the decrease in commodity prices and the further growth of energy resource prices in the world market.

With the current forecast, balanced monetary policies should contribute to a 5% inflation rate in 2020, which is half as much as the current figure. Should we expect a similar slump for the refinancing rate?

I would say that is true, theoretically. The refinancing rate is supposed to go down along with inflation, but there is no direct correlation here. At the early stages of inflation targeting, central banks tend to deploy somewhat more stringent policies than their more experienced counterparts under similar conditions. It is because they need to demonstrate their determination in ensuring price stability to earn the trust of the population and the market players. Additionally, there are a few other factors apart from inflation that the National Bank must consider.

The 2020 Strategy for Finance Sector Reform mentions renewed lending as one of the key goals. What are the indicators that will show that the objective has been achieved?

As a matter of fact, the strategic goal is not to reach a set measure, but rather to create favorable conditions allowing the citizens and the business sector to use loan funding more actively without creating substantial risks for the financial system. How do we achieve that? First, we must ensure the protection of lender rights, which requires reforms to the judicial and executive systems.

A lot has been done in this sphere. The Verkhovna Rada has supported crucial laws dealing with the protection of lender rights and improvements to state banks’ corporate governance. The legal entity bankruptcy procedure has been optimized from a legal perspective, the institute of bankruptcy has been introduced for natural persons, too. The laws’ implementation should improve the operation of the banking sector and contribute to increased economic activity.

The National Bank has got two divergent objectives on its hands: on the one hand, it should tackle inflation and stimulate citizens to save up, while on the other hand, it should provide the Ukrainian economy with a sufficient amount of funds. Which is the greater risk: to fail in curbing inflation or to prevent the economy from making its next leap by limiting capital availability?

As the National Bank has its priorities clearly defined, the answer is obvious – we target inflation in the first place. From a long-term perspective, it is price stability that forms the steady basis for sustainable economic growth.

Speaking about the availability of capital, banks are currently liquid enough and can fully meet the demand for loans to citizens and business entities. Polls indicate that banks remain optimistic and expect more active crediting over the next 12 months.

Thus, the strict monetary policy deployed by the NBU this year is not an obstacle to crediting. The problem mostly comes down to finding the borrowers who are ready to take the money and return it in due time.

What kind of borrowers are banks looking for?

The first requirement is reliability. Borrowers need to provide verified reports and have a healthy credit history. The NBU will launch its credit registry in bilateral mode on 1st January 2019. Banks will be able to review their potential customers’ behavior regarding loans they had received from other banks. This will bring us one step closer to high-quality banking risk assessment and will help protect financial institutions from accumulating non-performing loans. As it stands now, unfortunately, these make up a considerable part of the banks’ portfolios.

Does this mean borrowers will be faced with more strict conditions?

It depends on the borrower. Once the credit registry is operational, banks will be able to assess their risks more objectively, which should allow them to issue better-performing loans.

The latest poll on bank loans shows that financial institutions are ready to soften their demands to small and medium-sized enterprises. At the same time, they plan to be more demanding in their relations with large businesses and natural persons.

It is important for the banks today to get rid of the non-performing loans burden they have accumulated before. These loans end up on their balance sheets and distract them from performing proper banking activities.