DIALOGUE EXCLUSIVE > Dr Fouad Shaker, Secretary General, UAB, on challenges and opportunities for central bank policies amidst the financial turmoil

“The world’s central banks have already undergone dramatic changes since the start of the credit crises more than a year ago. They cut interest rates with unprecedented rapidity- may be in some countries to historical lows. They have massively increased banks’ liquidity to meet heightened private sector demand.

It is obvious that with the crises eruption central banks are practicing not only their conventional functions, be it their supervisory role or managing monetary policy or foreign exchange, but they also revamp the old concepts  in the central banking literature to become de facto central counter parties in the money markets. Yet, in some cases, they act as direct lenders to companies. Unlike their orthodox culture, they are making liquidity available against collateral on terms far more favorable than those that prevail in the private markets.

Whether the direct interference of central banks as lenders to customers together with being lender of last resort to banks will be in the near future a blessing or it will be a curse, is an unpredictable issue so far. No one would argue the power of central banks in stimulating demand by adopting expansionary policies. However, no one would deny the negative consequences when they excessively adopt cheap money policy or practice commercial banks functions by lending customers directly. Not to mention it is generally accepted in the economic literature that the over interference of central banks in the credit market would impede their supervisory role and bring forth economic malpractices. Thus, it is widely perceived among central bankers that this issue is a compromizable one subject to highly accurate calculations.

Having central banks adopted the aforesaid criteria, no one would argue the fact that they will have become in effect catastrophic risk insurers of last resort for whole classes of financial assets, taking on the risk that the crises could become so bad that they can not recoup their loans. Taking into consideration as well, the high probability of distortion for investment standards. This would be a direct cause for the decrease in the competitiveness degree for the economy not to mention the seeds for another crises, even larger and more destructive.

 The Federal Reserve (USA) took steps to cut interest rates virtually to zero and said it would create money to finance ever larger credit operations. Already the fed arguably has one companion, the Bank of Japan. The BOJ cut rates to nearly zero. Stepped up its purchases of government bonds and said it would buy commercial papers. Of course, both of them followed the well-known rule that stipulates; when central banks want to stimulate a slowing economy they normally cut interest rates. But when rates approach zero other tactics must be employed. Like the Fed, the BOJ is likely to end up funding these purchases by expanding its holdings of bank reserves and therefore the narrowest measure of the money supply. Unlike the Fed, it has the option of issuing its own dept instead.

As for Europe, the Bank of England while cautioning against assuming that it will follow the fed into unorthodox territory, is thinking about what it might do in certain circumstances if UK interest rates also fell towards zero. The European central bank as a whole is much less prepared to countenance the possibility that euro zone interest rates might end up so low. However, ECB officials say this does not rule out some forms of innovative operations.

That these issues are even being discussed in so many big economies is truly remarkable. Radical as the measures taken by central banks collectively to date are, the territory that lies beyond zero rate is still more unfamiliar. Only Japan has any experience of unorthodox monetary policy. At the turn of this decade it adopted a strategy of quantitative easing. Increasing the money supply by increasing bank reserves in the hope that this would end deflation and boast lending.

The strategies under consideration today bear some resemblance to Japan’s quantitative easing, since they involve swelling the central banks balance sheet by more than the amount required to accommodate an increase in the private sector’s demand for liquidity. It is obvious that the Fed’s strategy amounts “targeted QE” although the Fed officials do not think quantitative easing was a big success in Japan. The Fed says its own strategy is to stimulate the economy by driving down actual borrowing rates-increasing reserves only as a byproduct – and it prefers to call this credit policy or credit-based easing.

Even the Bank of Japan does not think quantitative easing was an enormous success, and denies that what it is doing now amounts to the same thing. The ECB remains distinctly wary about further cuts to official borrowing costs. Some officials concerned about running out of ammunition – a concern that runs directly contrary to Fed thinking – or of sowing the seeds of the next puble.

In fact, the atmosphere of the crises is still opaque and vague. This of course has created a general state of uncertainty. No wonder if there is a common feeling of mistrust among investors not in single country or region but worldwide. Therefore, it will take longer time to enhance the international economy unless the real reasons for the crises have been addressed.

To this extent, tens of questions should be answered; the most important of which are the following:

-          Were the developed economies serious when they referred to the developing economies as partners in the aftermath of the crises?

-          What is the transparency’s real meaning and who is entitled to interpret it?

-          What is the future of globalization, specially the free trade and the open door policies in light of the implicit subsidy for producers in the developed countries?

-          What will be the role of the international economic organizations (IMF, World Bank, WTO) in the aftermath of the crises?

-          Having rating agencies as a part of the problem, are they ready for overall reform?

-          The Capital Markets and Stock Exchanges; are they able to reflect the real prices? Or in other words, is it possible to protect people from the harmful speculations and from being deceived?

-          To what extent will the derivatives be swelling far from their original role for hedging?”

 

 Dr Fouad Shaker is the Secretary General of the Union of Arab Banks (UAB) & the Secretary General of World Union of Arab Bankers. Dr Shaker holds a Ph.D. in business administration (finance) and is a chartered accountant. His previous associations include: General Director, banking supervision division, the Central Bank of Egypt; Assistant Director, banking supervision for training and development, and Advisor to the Governor, Central Bank of Kuwait; and Senior Inspector to several Egyptian Banks including Bank  Misr, Bour Said, Bank Al – Jamhuria. Dr. Shaker has a long record of training and advisory activities. He used to give lectures on economics and finance at several Egyptian universities and supervised PhD dissertations. He also used to give training programs at Egyptian and Arab banking academies. He served during the 1970s and 1980s as an Advisor to the Egyptian Investment Authority, and as an Advisor to the Deputy Prime Minister for Economic and Financial Affairs. Dr. Shaker has authored several research papers and books on economic, banking supervisory and financial issues. He is also a senior speaker at international and Arab Conferences.