Mon | Dec 9, 2019

Banks feel the pinch as BOJ attacks dollarisation

Published:Friday | October 6, 2017 | 12:00 AMAvia Collinder
Senior Deputy Governor Bank of Jamaica, John Robinson, says signs in banking data show that BOJ's actions are having the desired impact.
Nigel Holness, President of the Jamaica Bankers Association, redirected queries to the central bank.

For the past year, the Bank of Jamaica (BOJ) has systematically been pulling foreign currency out of the market as it polices dollarisation, but while commercial bankers acknowledge that the strategy is working for the central bank, they say it comes at the expense of their business.

The BOJ last increased the reserve requirements for foreign currency by one point to 15 per cent in the June quarter.

But bankers polled by the Financial Gleaner, most of whom spoke only on condition of anonymity, say that due to the types of assets that count as reserves and other regulatory requirements, the result for them is that as much as 29 per cent of the foreign exchange that comes through their doors has effectively been sanitised by the BOJ - meaning they are unable to transact any business with those funds.

To make up for the lost business opportunities, some banks have taken to increasing fees and adjusting interest on foreign exchange transactions. The knock-on effect of that is, customers are less inclined to transact business and save in hard currency.

That effectively is the outcome that the central bank desired. BOJ's intent is to reverse what it sees as a shift towards dollarisation of local savings accounts.

Backfiring on liquidity

But its tactic, bankers say, is increasing the cost of funds to borrowers and tightening liquidity at a time when foreign exchange is needed for lending to the private sector.

"We believe there is an important relationship between the level of reserves commercial banks hold at the central bank and the availability of credit to facilitate economic growth. Therefore, we believe that lower levels of foreign currency reserves would enable commercial banks to stimulate growth in the economy," said Managing Director of JN Bank Maureen Hayden-Cater.

The big banks, it was noted by another banker, have large payroll accounts, Government of Jamaica deposits and other resources to ease their position, but for smaller banks, the reserve requirement results in less money available for lending and credit issued at higher cost to the private sector.

Others chose to delve into the numbers and the complexity of banking to explain the impact of the reserve requirements.

"Liquid asset ratios are USD 29 per cent, of which 15 per cent is cash reserves held at BOJ at zero per cent interest; and 14 per cent in acceptable liquid assets, typically deposited with a correspondent bank or invested in Treasury bills at-lower-than optimum rates."

Comparatively: "For the JMD it is 26 per cent, of which 12 per cent is cash reserve. This means that the bank has only 74 cents per $1 to invest in high-yielding JMD loans, and 71 cents in the case of USD," said one.

"The bank must lend at rates that would provide returns to pay interest to the depositor on the full $1. This impacts the ability to lower rates as well," he told the Financial Gleaner.

A treasury manager similarly noted that "implicit in a higher cash reserve is a higher cost for taking $1 of deposit". For example, assuming a one-dollar deposit priced at one per cent and a reserve requirement of 10 per cent, those funds would cost the bank 1.11 per cent; but at a 15 per cent reserve requirement, the bank's cost rises to 1.176 per cent, he said.

"To mitigate this increase in cost, the institution would lower their deposit rates, creating a disincentive for potential depositors' propensity to save in USD, versus the now wider JMD/USD deposit rate differential that would have to be superseded from a devaluation standpoint - that is, were the differential to move from two per cent to 3.5 per cent, for argument's sake, the dollar would now have to devalue by greater than 3.5 per cent annually to justify a dollarisation asset shift," he said.

An economy is considered dollarised where local business is mostly transacted in US currency rather than its own.

The International Monetary Fund said in its 13th review of the finalised Extended Fund Facility with Jamaica that deposit dollarisation in Jamaica was one of the highest in the region.

The background to this, the fund said, was the 2013 crisis in which domestic bonds were restructured, reserves declined, and the nominal exchange rate depreciated all serving to weaken public trust in Jamaican dollar deposits and bonds and raised the attractiveness of foreign exchange-denominated assets.

Following that review, the BOJ began to take action.

"Before we made the last set of changes, the reserve requirement for US dollars was nine per cent and for Jamaican dollars it was 12 per cent - so in two steps we changed that," said BOJ Senior Deputy Governor John Robinson.

"First, we equalised it so that all deposits would then have a reserve requirement of 12 per cent. Subsequent to that, we moved the requirement for US dollar deposits to 15 per cent, which is where it is now," he told the Financial Gleaner.

President of the Jamaica Bankers Association, Nigel Holness, redirected requests for comment on the impact of the policy on his sector to the central bank.

Robinson noted that the move has been effective.

"Since then, the rate of dollarisation has declined in the commercial banks because there is less of an incentive for persons to hold dollars, hold savings in dollars. That's reflected in the reduction in deposit rates that banks offer on US dollars," the central banker said.

Still, the foreign deposits held by commercial banks now top $100 billion, according to the most recent BOJ data. There was a big spike in deposits by around US$140 million, based on Financial Gleaner estimates, in November 2016 - the effect of which pushed the banking sector's foreign liabilities in one month from $87 billion to $105 billion, when denominated in local currency.

Since then, those liabilities have climbed higher to $114 billion in February, but the spike in that month was due to the entry of a new bank in the market, the central bank's records show.