In a press release on its website, the CBI linked the galloping inflation to the coronavirus pandemic in the beginning of current fiscal year (in March) which affected businesses across the globe and further hurt Iran’s foreign currency revenue.
Referring to monetary data, the CBI said a package of its measures designed to curb money supply growth, one of the main drivers of inflation, had delivered.
It said the pace of monetary base growth declined significantly in the last calendar month to August 21, thanks to measures that obviated the need for the government to borrow from the CBI.
The monetary base increased 2.9% at the end of last month compared to the preceding month. On annualized basis, however, the figure posted 26.8% growth. Likewise, money supply grew 13.8% in the first five months of the current fiscal year.
Earlier CBI data showed that the monetary base grew to 3,834.7 trillion rials ($16 billion) in the first quarter of the current fiscal year to June 21, indicating 8.8% growth.
The CBI said the government’s alternative methods to fund budget deficits explains the reason behind the decline in monetary base, namely selling bonds and divesting stakes in companies listed in the stock market.
A series of bond auctions have been launched since May by the government. This apparently helped the government raise funds to plug the budget holes instead of asking for money from the central bank.
The government also divested shares worth 272 trillion rials ($1.2 billion) in 16 state-owned companies in one year ending August 2019.
Money Multiplier Growth
As per the CBI report, the money multiplier growth was near 10.5% in the mentioned period, which the CBI said was mostly due to the decline in legal reserves of banks as they extended part of the their resources to mitigate the harm from the spread of the coronavirus on businesses.
“Decline in the legal reserves of 21 banks and credit institutions explains 7 percentage points of the money multiplier growth.”
Money multiplier measures the maximum amount of commercial bank money that can be created by a given unit of central bank money.
The government approved an estimated 750 trillion rials ($3.2 b) in April in virus stimulus measures of which 500 trillion rials was given in loans to SMEs hit hard by the pandemic and the remaining in interest-free micro credit to 23 million families in need.
The situation had exacerbated by the already strained fiscal budget, forcing the government to approach the National Development Fund of Iran, the country’s sovereign wealth fund, for financial assistance.
NDFI holds a portion of oil and gas revenue for future generations, but due to the US sanctions most of its resources remain frozen overseas. When the government borrows from fund, the CBI has to pay the government the rial equivalent of the forex it requests from the fund.
The procedure is said to be the main reason behind the expanding base as the CBI has to print money for rial payment until the NDFI resources are accessible.
Rise in Interbank Rates
To reach the set inflation target, the CBI has resorted to several monetary measures, such as creating an interest rate corridor (IRC), increasing interbank deposit rates and introducing new instruments to attract money supply from the public.
Under the IRC structure, the CBI sets the floor and ceiling of policy rates and lets other money market rates, such as interbank rate, move within this setup.
The CBI said it has increased the IRC in three phases. In the latest update in August, it raised the lower bound of the corridor from 13% up to 14% to collect surplus liquidity in the interbank market.
To curb money supply growth, the CBI allowed lenders to issue certificates of deposit at 18%. It also tweaked interest rates in July to check money flowing out from banks.
In addition, the Money and Credit Council - the top monetary decision-making body - approved a proposal by the CBI to issue a new type of ‘Wadieh’ Islamic bond to tame money flow.
The bond will have a 2-year maturity with interest rates proposed by the CBI. Interest will be determined subject to inflation but will not exceed the annual inflation rate.