Economy, Business And Markets

Debate Rages Over Reserve Requirement Ratio

Debate Rages Over Reserve Requirement Ratio Debate Rages Over Reserve Requirement Ratio

As the Money and Credit Council plans to discuss the idea of decreasing the reserve requirement ratio in a meeting this week, the debate among experts about the effectiveness of the policy on the economic situation has become heated.

In April, the MCC approved to cut the reserve requirement ratio by 0.5% to 13% for commercial banks and credit institutions (both private and state-owned). The approval was due to be revised in later sessions.

The rate, however, remained unchanged at 10% for specialized banks and branches of commercial banks located in free trade zones. The figure also remained unchanged for Bank Maskan, which is largely involved in the housing sector.

The policy to reduce the reserve requirement ratio will act as an expansionary monetary tool that would boost lending, but some are worried about its inflationary effects. It could neutralize the administration's efforts to further curb inflation, hovering at 15%.

Iraj Nadimi, who serves on the Economic Commission of the Parliament, warned that the plan to decrease the ratio would adversely affect the economy since a rise in the money supply will not necessarily lead to economic growth.

"It may even worsen recession and depreciate national currency," IRNA quoted him as saying on Monday.

Mahdieh Amiri, an economist and banking expert, said lowering the reserve requirement ratio would enhance monetary base and money supply.

"Given the fact that the country has been suffering from stagflation in recent years, the move could increase inflation and make it hard for the government to help pull the economy out of recession," she said.

Earlier, the governor of the Central Bank of Iran, Valiollah Seif, expressed concern over the inflationary effects of a decision to decrease the reserve requirement ratio, saying that "each percentage point decrease in the ratio would result in a 5.4% increase in the money supply."

However, Economy Minister Ali Tayyebnia has advocated the idea of lowering the ratio, arguing that the move will help banks better fund businesses and the manufacturing sector.

Mehdi Taqavi, an economist at Allameh Tabatabaei University, believes the decision, if made by the MCC, would raise banks' resources. "Economic growth will be likely if the released funds are directed into productive, not speculative activities," he noted.

Moreover, another banking expert has supported the ratio decline, suggesting that the central bank use half of the released funds to clear commercial banks' debt.

Bahaoddin Hosseini Hashemi, former CEO of Bank Saderat and Tat Bank, said the decline would have inflationary effects since banks' lending power would increase tenfold in exchange for one unit growth in banks' resources.

"However, the measure should be taken due to the economic downturn and a two-digit unemployment rate," Banker news website quoted him as saying on Sunday.

Should the CBI allocate half of the released funds gained from the decline in reserve requirement ratio to compensate banks' debt, lenders would get rid of paying the 34% interest rate, the expert said, adding that this would reduce cost of money and banks would be able to lend at lower rates.

Banks have been borrowing hugely from the central bank at 34% interest to address capital shortage in recent years. Commercial banks' debt to CBI stands at 118 quadrillion rials ($4 billion at official exchange rate), according to latest reports.

He regarded banks' overdraft from the CBI as the main reason behind lenders' tendency toward offering illegal higher deposit rates.

"Banks are obliged to pay 34% interest rate when they borrow from the CBI. So, they have to offer higher deposit rates to attract more capital," he noted.

Hashemi highlighted the role of economic sanctions imposed on Iran over its nuclear energy program as a factor causing financial difficulties in the country.

At least $100 billion in Iranian foreign funds are frozen overseas due to the sanctions. The United States and the European Union have also barred foreign banks from interacting with Iranian banks in the past few years after their nuclear dispute with Tehran gained momentum.

"The central bank is now required to raise capital needed for economic activists through boosting local lending sources," he said.