Monetary authorities would do better to focus on developing the bond market that in turn will create the grounds wherein market forces bring down deposit rates, Parviz Aghili Kermani, a Tehran-based economist said.
As the economy continues to struggle with bouts of recession, the administration unveiled a policy package last month under which the Central Bank of Iran will strive to lower interest rates indirectly by cutting inter-bank interest rates, eghtesadnews website reported.
The policy, Aghili argues, could help achieve that goal in the short run but eventually “will stoke inflation as it increases the monetary base.”
He, however, admits that a policy to indirectly reduce interest rates is less harmful than imposing rates on the banking sector.
On the possible mechanisms to cut interest rates without fueling inflation, he said “One rational solution would be to introduce financial policies that will end the recession. However, in the absence of sufficient oil and tax revenues, measures to stimulate the economy may result in higher inflation.” Thus, he recommended the government to develop an organized bond market where companies in need of funds could do so by issuing bonds.”
As and when “the bond market becomes competitive, interest rates will automatically decline.”
The expert recalled that “The practice is common all over the world where large companies resort to the bond market instead of banks to finance their projects.” That is why interest rates are usually very low in those countries.
He regretted the fact that Iran’s bank-reliant economy does not allow market forces to develop and said “Large enterprises should finance their projects through bond markets so that the chronic problem of high deposit rates would be resolved once and for all.”
Elaborating on the process of bringing down interest rates through the bond market, he said “If large auto makers or steel manufacturers issue bonds at 25% interest while the banks offer 20%, the public will surely prefer bonds over banks. The issuers of bonds can then deposit their money in banks and start buying what they need, pay wages or use it for other expenditures.”
By doing so, money does not exit banks but the cost of money would fall from 20% to zero. Gradually, interest rates will decline as the heavy burden of financing large enterprise is removed from banks.
The analyst warned that “In the absence of credit rating agencies in the country, banks should guarantee the bonds issued by the big firms and a credit ceiling should also be set for banks.”
The government has deferred the decision to cut interest rates until the Central Bank of Iran is ready to enter the inter-bank market. Money and Credit Council voted earlier in April to cut interest rates in keeping with the inflation rate which had dropped from 45% in 2012 to 15% in 2015.
