The Hungarian central bank has surprised with a 50 basis point rate cut to 11 per cent, just a month after hiking rates by 300 basis points and reaching out for a $25bn IMF-led bailout.
Analysts had expected Hungary to keep rates unchanged.
But, the central bank, the MNB, has also taken another interesting step by cutting its mandatory reserve requirement to 2 per cent from 5 per cent.
Similar moves have also been taken in Croatia, Lithuania, Latvia and even Saudi Arabia in the last few weeks.
Why cut reserves? The intention, according to some of the central banks, is to help stimulate lending. By freeing-up reserves, that money can be re-injected into the banking system, they say, providing an all-important liquidity boost. The move also provides a cushion to banks who may be struggling with current overnight requirements, the stress-relief itself improving the operational environment for banks and lending.
TD Securities’ Bartosz Pawlowski explains:
Normally, you cut official interest rates to boost lending. But the problem in CEE is that banks are not willing to lend, so central banks are trying to take another approach and they are cutting the reserve requirements. This will free cash tied up in reserves (which doesn’t usually yield much) and presumably provide a kick to the interbank market. The scope of the move in Hungary is quite significant (from 5 to 2%) so the impact should be visible. The question is whether international investors will trust the MNB enough to come back to the bond market (official data shows that there have been massive outflows in recent months).
But there are negative consequences too. For one, there is the potential inflationary follow-through. Secondly, and more significantly, a 2 per cent reserve buffer (as in the case of Hungary) leaves precious little room for a sudden deterioration in loan quality. However, as Pawlowski notes, the short-term crusade to save economies from recession may currently be outweighing everything else.
Related links:
Saudi cuts repo rate to boost liquidity – IHT
Croatia cuts bank mandatory reserve rate to 14 pct – The Guardian
Lithuania cuts ratio for banks as Balts squeezed – Reuters
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