Archive 2009

  • 07.10.2009

    Administrative measures to support the hryvnia: An appropriate instrument of exchange rate policy?


    Over the recent past, the National Bank of Ukraine (NBU) has implemented a number of administrative measures in an attempt to regulate the foreign exchange market. It seems the authorities wanted to pursue several goals at the same time, like closing loopholes for currency speculation and decreasing the level of dollarisation. The underlying motive for these measures, however, seems to be an attempt to support the exchange rate of the hryvnia. For instance, the NBU Resolutions No. 107 and 109 oblige commercial banks to keep provisions for foreign currency loans in hryvnia and not in foreign currency, as was previously the case. In such a way, the NBU is clearly aiming at increasing the supply of foreign currency and/or the demand for hryvnia on the foreign exchange market. Despite the fact that such measures were heavily criticised, especially by commercial banks, there is an ongoing discussion on the implementation of further administrative measures, such as prescribing commercial banks to pay out interest and/or principal on foreign currency deposits only in hryvnia (i.e. not in foreign currency).

    In this paper we review and assess the economic impact of selected administrative measures that were recently implemented, or are currently under discussion. At a first glance, such measures seem to support the exchange rate of the hryvnia. But a more profound analysis shows that in fact such measures are more likely to weaken than to strengthen the hryvnia. Economic agents interpret such measures as a clear evidence of the weakness of the national currency and react accordingly by holding foreign currency. Furthermore, the use of nonmarket based instruments of exchange rate policy increases uncertainty about more extreme measures being implemented in the future, such as the forced conversion of foreign currency deposits into domestic currency. As a result, many households prefer to keep foreign currency in cash, thus weakening not only the hryvnia, but also the banking sector. In short, administrative measures are generally speaking counterproductive.

    But this does not mean that the NBU should do nothing about the exchange rate. In order to prevent sharp and volatile movements in the exchange rate, the NBU can intervene on the foreign exchange market, as far as the level of official reserves permits this. Also, the NBU can support the hryvnia by conducting a relatively tight monetary policy and thus controlling the supply of hryvnia. But also allowing effective hedging instruments such as forwards to function would be a crucial step, since this would under current conditions reduce demand for foreign currency and thus put less pressure on the exchange rate.

    Authors:  Kravchuk Vitaliy, Кірхнер Роберт, Джуччі Рікардо
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