Economy, Business And Markets

Reserve Ratio Cut Criticized

Reserve Ratio Cut CriticizedReserve Ratio Cut Criticized

A study conducted by the Iran University of Science and Technology has challenged the monetary incentive package unveiled earlier this week by the government, FNA reported.

Recalling futile measures by the Central Bank of Iran to reduce the reserve requirement ratio in the past, the authors have instead proposed new alternatives to further cuts in the reserve ratio of banks.

“Experience of the past two years shows that reserve requirement ratio cut from 17% to 13.5% produced no tangible economic improvement and moved banking problems from bad to worse,” the report said.

The authors argue that money supply growth, either by manipulating money multiplier or money base, inevitably fuels inflation unless a clear mechanism is defined to direct the added liquidity towards manufacturing. “Thus, cutting reserve requirement ratio to 10% can increase money supply hardly by 16% and consequently the inflation rate,” the report claimed.  

As banks are tasked with money creation, their health is critical to the distribution of liquidity and economic wellbeing. “Empowering banks to access more liquidity by lowering their reserve requirement ratio without a prior structural reform within the banking system will worsen the existing problems,” it warned.

The report recommends that monetary authorities increase the money base in a clear and targeted manner and direct it towards sectors that can act as drivers of economic growth. At the same time, the authors called for adjusting banks’ money creation power in line with the inflation rate target.

Reducing non-performing loans by disposing debtors’ collaterals, curbing speculative activities by commercial banks, reforming the banking industry to improve resource allocation, closer supervisory mechanisms by the regulator and imposing punitive measures on violators, upholding the loan ceilings and fair distribution of loans among applicants, increasing the capital of banks to meet the standard capital adequacy rate are among other solutions proposed in the IUST repot.