What should we expect from the Monetary Policy Committee (MPC) of the Bank of Ghana (BoG) at a time when the Treasury is aggressively attempting to reduce its cost of borrowing by taking advantage of the high demand environment for short-term maturities?
The Treasury’s action is taking place while the MPC is maintaining a tighter stance due to high inflationary pressures, with February 2023 inflation standing at 52.8 percent. The Treasury is trying to drive down the interest rates of key money market instruments, particularly Treasury bills across the 91, 182 and 364-day tenor, to as low as 15 percent.
How does these activities affect MPC’s actions and the market in general?
Official data shows that the interest rate on the 91-day T-bill has tumbled to 18.53 percent, at the last auction session settled on March 20, 2023. The current relatively high interest costs do not factor in the government’s medium-term Debt Sustainability Analysis (DSA), prompting the Treasury to take steps to ‘force’ interest rates down at this auction.
Due to limited market access, the government has been actively tapping into the Treasury bill market, its only market window currently, to refinance maturing obligations and also build some buffers, leading to the continuous accumulation of a relatively high-interest burden.
The successful conclusion of the Domestic Debt Exchange Programme (DDEP) is undoubtedly a significant milestone for the government, as it has managed to reduce the country’s domestic debt stock and improve the sustainability of public finances. This could potentially have a positive impact on the economy, as the government can now focus on other critical areas such as infrastructure development and social welfare programmes, without the burden of high debt servicing costs.
However, the government’s recent move to aggressively reduce the interest rates on Treasury bills may have implications for the MPC. The committee is responsible for formulating and implementing monetary policy, which includes setting the benchmark interest rate and managing inflation.
With inflation currently standing at 52.8 percent as of February 2023, the MPC is already facing stress to maintain a tight monetary policy stance to curb inflationary pressures. A further reduction in interest rates on Treasury bills could therefore potentially increase inflationary pressures and erode the value of the cedi.
The MPC may also face a challenging decision in setting the benchmark interest rate in the coming weeks, given the conflicting factors of rising inflation and the government’s push to reduce borrowing costs. A decision to keep interest rates high could potentially stifle economic growth, while a decision to lower interest rates could exacerbate inflationary pressures.
Moreover, the MPC may face a puzzling task of balancing the need for price stability with the need to support economic growth. Lowering interest rates could spur economic growth by increasing lending and investment activity. However, the MPC may be hesitant to lower interest rates too quickly, as this could lead to further inflationary pressures.
The market is likely to continue to react positively to the aggressive moves by the Treasury to lower interest rates on short-term maturities. The sustained demand for Treasury bills as a safe haven and viable investment choice has already resulted in a significant increase in demand for T-bills, with the total bids for February 2023 standing at GH¢13.51 billion, the largest size in three years. The situation still remains same as investors continue to oversubscribe Treasury tenders for short-term maturities.
The high demand for Treasury bills and the government’s efforts to drive down interest rates on these bills have resulted in a drastic decline in yields. The continued surge in demand for T-bills may lead to a distortion of the broader financial markets, with investors increasingly channeling their funds into T-bills at the expense of other investment options.
However, the sustained demand for Treasury bills may lead to some challenges. With limited market access, the government has been very active on the Treasury bill market. The continued reliance on Treasury bills to meet financing needs could lead to further concerns about the sustainability of public debt.
The MPC may need to adopt a cautious approach to monetary policy to support economic growth and mitigate any negative effects, amid recent rate hikes by the US Federal Reserve. The central bank may want to be more conservative in its policy decisions, taking a more restrained approach to changing interest rates and money supply levels, in order to promote financial stability, control inflation, and encourage sustainable economic growth. By taking a more cautious approach, the central bank will hope to avoid the risk of destabilising the economy or financial markets through overly aggressive policy actions.
For instance, on the back of the DDEP, the various financial sector regulators temporarily reduced regulatory capital and liquidity requirements for regulated firms and schemes that voluntarily participate in the debt operation. Regulators will also suspend or delay any new rules that will have an adverse impact on liquidity or solvency. Also, each regulator is expected to implement more specific reliefs to its regulated firms.
In conclusion, the government’s recent aggressive move to reduce borrowing costs by lowering interest rates on Treasury bills may have significant implications for the economy and the broader financial markets. The MPC of the Bank of Ghana may face a challenging decision in setting the benchmark interest rate in the coming weeks, given the conflicting factors of rising inflation and the government’s push to reduce borrowing costs. It is imperative that the government and the MPC work together to strike a delicate balance between promoting economic growth and maintaining price stability.