Unconventional Monetary Policy

Monetary policy is the process by which the central bank of a country, such as the Reserve Bank of Fiji (RBF), controls and manages the level and rate of growth of money supply in the economy. This is conventionally done by targetting interest rates or the supply of money usually via commercial bank reserve requirements (or statutory reserve deposits (SRD) in Fiji’s case) and open market operations (OMO).¹

For example, if the economy is growing too fast, the RBF, in order to keep inflation and foreign reserves stable, could tighten monetary policy by raising its key interest rate to make borrowing more expensive. Alternatively, the RBF may raise its SRD – the level of reserves that commercial banks must hold with the RBF – thereby reducing banks’ ability to generate new loans. In addition, the central bank could issue its own securities to withdraw money from the banking system.

In contrast, to support economic growth, these policy measures may be implemented in reverse to raise the demand for money or credit in the economy.

The use of such conventional monetary policy measures and tools has proved to be a reliable way of providing sufficient monetary stimulus to the economy during downturns, or containing inflationary pressures during upturns and ensuring the sound functioning of the money market and the stability of the financial system.

While conventional monetary policy tools are widely used, their usefulness is limited in times of economic crises. This may happen if nominal interest rates cannot be lowered further to provide economic stimulus as they may be close to zero and bank reserve requirements cannot be made so low without increasing the risk of banks going into default.

In such situations, monetary stimulus may be undertaken by resorting to unconventional monetary policy tools. In simple terms,  these tools or measures help pump money into the financial system through the purchase of Government and other securities to encourage credit to support expansion in economic activity. This could take the form of central banks providing additional liquidity to banks to directly target liquidity shortages in the banking system. A reversal of these measures may be undertaken should the need to restrain money and credit growth from an overheating economy be warranted.

During the global financial crisis (GFC) in the 2008/2009 period, central banks in advanced economies (the Federal Reserve Bank, the Bank of England, the Bank of Japan as well as the European Central Bank) resorted to ‘quantitative easing’. This saw these central banks buying Government bonds and other market securities to inject liquidity into the financial system and ease credit conditions.

In Fiji’s case, the economy was sheltered from the direct effects of the GFC, relative to advanced economies. Nevertheless, Fiji felt the indirect effects of the GFC through spillovers from its trading partners. In line with lower performances of trading partner economies in 2009, Fiji’s growth declined by an estimated -1.4 percent. Foreign reserves fell to a pre-devaluation level of around $418 million in April while inflation hovered at close to 7 percent during the year. As such, the Fijian economy needed measures that would ease financial conditions and support economic growth post-2009. Consequently, the RBF resorted to unconventional monetary policy measures to support the existing accommodative policy stance.

These measures included the Import Substitution Export Finance Facility (ISEFF)², the Small Medium Enterprise Credit Guarantee Scheme (SMECGS), Housing Facility Scheme, the Agriculture (ALR) and Renewable Energy loans ratios (RELR) and the Natural Disaster Rehabilitation Facility (NDRF) which are available through various financial institutions. These facilities provided financing to businesses affected by natural disasters and aided activities in the SME, housing, agriculture and renewable energy sectors that eventually contributed to increased economic activity and shoring  up foreign reserves.

Under the ISEFF, all exporters are eligible to obtain credit at concessional rates of interest. In addition, businesses in the agricultural sector that produce imported goods can also tap into this Facility. The ISEFF provides maximum loan terms of five years and is available through commercial banks, licensed credit institutions (LCIs) and the Fiji Development Bank (FDB). These lending institutions obtain funds from the Reserve Bank at an interest rate of 1.0 percent per annum, and on-lend the same to eligible businesses for up to a maximum of 5.0 percent per annum. Applications for funding under the Facility are subject to normal credit screening processes by the respective lending institutions.

In an effort to promote and develop local industries, improve private sector lending to SMEs and stimulate growth, the Fiji Government allocated funds for the establishment of the Small Medium Enterprise Credit Guarantee Scheme (SMECGS) in 2012. Government has provided a total allocation of $9.0 million to fund the Scheme, which is administered by the RBF.

The RBF also has a Housing Facility Scheme to assist low and middle income home buyers. A total of $35 million was allocated to the Housing Authority (HA) and the Public Rental Board (PRB).

Another initiative by the RBF to support economic growth and foreign reserves included the introduction of the Agriculture Loans Ratio (ALR) and the Renewable Energy Loans Ratio (RELR) in February 2012 requiring commercial banks to extend credit to the agriculture and renewable energy sectors. At inception, the ALR and the RELR were set at 4.0 percent and 2.0 percent of commercial banks’ deposits and similar liabilities, respectively and these have remained unchanged following annual compliance reviews.