Fiscal Policy Not Proactive

EghtesadOnline: The ever-expanding money supply and the rising consumer price inflation are products of the domination of fiscal policies over monetary policies, head of the Central Bank of Iran economic department said.

News ID: ۷۸۵۹۲۳

06 February 2021

"Fiscal policy supremacy over monetary policy and the lack of independent monetary policymaking have always been a monumental challenge for our economy" Peyman Qorbani was quoted as saying by the news agency of the Monetary and Baking Research Institute.

The unwanted and unhelpful trend is deeply rooted in the overreliance of national budgets on oil export, Qorbani said.

"This has led to the CBI adopting a procyclic monetary policy rather than a 'counter-cyclical' policy.  In short, no matter oil revenue decreases or increases, the government budget has always been designed in such a way that it has intensified fluctuations in trade cycle".

Trade cycle, also known as business cycle and economic cycle, comprises of concerted cyclical upswings and downswings in the broad measures of economic activity, namely output, employment, income, and sales. The alternating phases of the business cycle are expansions and contractions (also called recessions).

Procyclic refers to a condition of a positive correlation between the value of a good, a service, or an economic indicator and the overall state of the economy. In other words, the value of the good and services tend to move in the same direction as the economy, growing when the economy grows and declining when the economy declines.

Counter-cyclical fiscal measures are policy measures which counteract the effects of the economic cycle. For example, counter-cyclical fiscal policy actions when the economy is slowing would include increasing government spending or cutting taxes to help stimulate economic recovery.

The senior banking official recalled times when government oil revenue is high, which gives rise to CBI foreign assets, and by extension increases the monetary base.

"The cycle functions the other way round when oil income is down and the government has to slash spending, which in turn intensifies recession".

Role of Bonds

Qorbani said the CBI and the government have a solution and this were the bond market comes in to implement open market operations. He underscored the role of the government to sell bonds instead of borrowing from the CBI to plug the deficit holes at the pace with which money supply has expanded. "Had it not been for the bonds the money supply would have gone much higher."

The CBI in a report this week said money supply reached 31,300.2 trillion ($130 billion) at the end of third quarter of the current fiscal year on Dec. 20 -- up 38.4% Y/Y.

The amount is 2.2 percentage points higher than the first half of the year ending Sept. 21. Money supply jumped 26.6% since the beginning of the current fiscal year in March when it was 24,721.5 trillion rials ($103b).

The monetary base jumped from 3,142.6 trillion rials at the end of Q3 last year to 4,075.4 trillion rials ($16.9b) in the first nine months in the current fiscal year, indicating 29.7% annual growth. It was 15.5% higher since the beginning of the year to Dec. 20.

On the government’s behalf the CBI has sold bonds worth more than 1,000 trillion rials ($4b) in weekly actions since last May.

"Let's presume there was no bond sale and the government wanted to borrow half the [sold] bond amount from the CBI. Even if the CBI was supposed to procure 50% of the amount, the monetary base would have grown 13.9% and price inflation would increase by 11%," he said.

Apart from the bond market, Qorbani pointed to other measures to curb runaway inflation, namely controlling the balance sheets of banks and obliging them to buy government bonds.

The CBI says its open market operation monetary policy has delivered by curbing banks’ contribution to expansion of the monetary base and helped in balancing interbank interest rates.

The average goods and services Consumer Price Index in the 12-month period to Jan. 19, which marks the end of the 10th Iranian month, increased by 32.2% compared with the corresponding period last year, according to the Statistical Center of Iran.

SCI had put the average annual inflation rate for the preceding fiscal month that ended Dec. 20 at 30.5%.

Consumer inflation for the month under review (Dec. 21, 2020-Jan. 19) increased 46.2% compared to same time last year. Year-on-year inflation for of the month ending Dec. 20 was 44.8%.