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Monetary Policy

The bigger question that we need to answer before analyzing the

monetary policy is: What is Monetary Policy? What are the instruments

used to monitor the monetary policy of any country? What are the

objectives of the monetary policy? et!s try to answer these questions"rst#

$e"ning Monetary Policy % Monetary Policy can be de"ned as the actions

ta&en by the monetary authorities '(enerally a )entral *an&+ of the

country to use control of the supply of the money in the economy as a

measure, instrument to achieve the objectives of general economic policy#

The -bjectives of Monetary Policy % The various general objectives of the

monetary policy of any economy are stated below:

.# /ull 0mployment % /ull 0mployment is regarded as one of the mostimportant objective of the monetary policy of a country as lac& of

employment leads to loss of potential and social inequality#1# Price 2tability % The stability of prices in an economy is of vital

importance especially in a developing country# The in3ation4 if rises

sharply might a5ect the buying behavior of the citizen of the

country and therefore the business e6pansion rate also slows down

due to loss of revenues#7# 0conomic (rowth % 0conomic (rowth of a country means that the

real per capita income of the country rises over a long period of

time# 8t is therefore4 a major objective of any monetary authority ofthe country to achieve#

9# *alance of Payments % ast but certainly not the least4 each country

wants to maintain its balance of payments in an equilibrium and be

selfsu;cient# The Monetary Policy of the economy also strives to

achieve this target by implementing various changes from time to

time#

The 8nstruments of Monetary Policy % There are two types of monetary

policy instruments % /irst4

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7# )hanges in =eserve =atios % =eserve =atios are the ratios governed

by the )entral Money >uthority of the country under which every

ban& or "nancial institution is mandatorily as&ed to &eep certain

portion of its deposits in its vaults for liquidity and certain portion

with the )entral Money >uthority of the country#

9# 2elective )redit )ontrols % >ll the above mentioned instrumentsa5ect the economy indirectly4 but this instrument is used to directly

&eep a chec& on a particular sector if it is showing signs of in3ation4

recession or any other speculative activities in that particular sector#

>ll the above instruments can be used selectively for that particular

sector to &eep a chec& on the growth of that sector#

Monetary Policy of Malaysia

ow4 as we have learnt a bit about the terminology and meaning of

Monetary Policy4 we are in a position to analyze the Monetary Policy ofMalaysia4 the country we have chosen for our project# The )entral

Monetary >uthority of Malaysia is resided in the hands of *an& egara

Malaysia4 which is the )entral *an& of Malaysia governed by the )entral

*an& of Malaysia >ct4 1@@A# 8t is headed by (overnor and )hairman $r#

Beti >&htar >ziz#

The *an& egara Malaysia formulated a signi"cant development in the

monetary policy mechanisms and transmission mechanisms by

introducing the -vernight Policy =ate '-P=+ to monitor the overall

monetary policy functioning in the economy# The new framewor& included

the introduction of new policy rate and improvements to the conduct of

monetary operations4 as well as the removal of ceiling on base lending

rates '*=s+ and prescribed lending rates# *an&ing institutions now set

their *=s based on their respective cost structures and business

strategies# The new framewor& also serves as a catalyst for the e;cient

pricing of "nancial products and services by ban&ing institutions# The

deregulation of pricing is a &ey initiative under the /inancial 2ector

Masterplan to ensure greater e;ciency in the allocation and distribution of

resources in the "nancial system#

The ew Monetary -perating Procedures:

a+ The -vernight Policy =ate % -P= will be an indicator of the monetary

policy stance# The -P= will have a dual role % as a signaling device

to indicate the monetary policy stance and as a target rate for the

daytoday liquidity operations of the )entral *an >ny change in

monetary policy stance will be signaled by a change in -P=#b+ -vernight =ate as the 2ole -perating Target % Monetary operations

of *M will target the overnight interban& rate# iquidity

management will aim at ensuring the appropriate level of liquidity

that would in3uence the overnight interban& rate to move close to

-P=#

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c+ 8ntroduction of -vernight -perating )orridor and 2tanding /acilities

% To minimize e6cessive volatility in the overnight rate4 *M will

specify a corridor around the -P=# The corridor was set at C1D basis

points around the -P=# $aytoday liquidity operations will aim to

hold the overnight rate close to the announced -P=#

With the introduction of -P=4 *M didn!t just let the rates 'lending and

deposit+ to be mar&et driven but were regulated in the initial phase of the

introduction of -P=# The lending rates for 2M0s were monitored by the

)entral *an& while also allowing the 2M0s with special needs to ta&e

redress# >lso the deposit rates for /i6ed $eposits were also regulated by

the )entral *an

Monetary Policy and =esults for the year 1@.9

The 8n3ation rate was above its long run average in the year 1@.9 for

Malaysia# 2o the )entral *an& followed a contractionary monetary policy

by increasing the overnight policy rate '-P=+ by 1D basis points to 7#1DE4

e6pecting the growth to continue and in3ation prices to remain at higher

than long run average# The monetary policy stance was last changed by

*M in 1@.. and since then4 the economic growth of Malaysia had shown

steady growth amid e6ternal imbalanced environment# This was majorlydue to domestic demand and the monetary authority felt a need to

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monitor the policy rate stance to stabilize the ris&s of broader "nancial

imbalances given the e6tended period of relatively low and unchanged

interest rates#

The two major concerns for the increase in -P= were as follows:

.# *alance of =is&s to the -utloo& for (rowth % 8n early 1@.94 the

Malaysian (overnment projected a steady growth of the Malaysian

economy# 8n line with the positive outloo& of the global growth4 the

Malaysian e6ports were e6pected to rise# $omestic demand was

e6pected to be the main driver of growth with robust investmentfrom the private sector# *y May 1@.94 the government e6pected the

growth in 1@.9 to be the upper end of the initial forecast of 9#DE

D#DE# *ut the Monetary Policy )ommittee 'MP)+ recognized that

the downside ris&s to growth remained4 particularly in relation to the

ris& of moderation in private consumption growth and wea&er

e6ternal demand#1# 8n3ation % The MP) e6pected greater upside ris&s to in3ation which

was e6pected to trend above its longrun average of 7E in 1@.9

and 1@.D# This was e6pected because of the domestic cost factors

li&e upward adjustments in retail fuel prices4 electricity tari5s andintroduction of (2T in 1@.D#

Therefore4 the MP) considered the rise in -P= to normalize the upside

ris&s of in3ation in the economy and lower the downside ris&s of

/inancial 8mbalances# The adjustment in the policy rate occurred

smoothly without major disruptions to the "nancial system and the

overall economy# =etail lending rates adjusted quic&ly to the change in

-P=#

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Monetary -perations

The average overnight interban& rate remained stable around the -P=

with an average deviation of 1 basis points#

Managing iquidity

Total interban& money mar&et transactions4 which comprised deposits

and acceptances4 ban&er!s acceptance '*>+4 and negotiable instrument

of deposits '8$+ in both the conventional and 8slamic money mar&ets4recorded a marginal increase in volume to =M7#1 trillion '1@.7: =M7#.

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trillion+# >mong the instruments4 conventional deposits4 which were

unsecured borrowing and lending4 was the main instrument traded and

contributed FG#7E of the total volume# >ggregate surplus liquidity in

the system declined from =M77F#G billion as at end1@.7 to =M1FA#A

billion at the end of the year due to capital out3ows4 particularly in the

fourth quarter following e6pectations for interest rate normalization by

the /ederal =eserve amid the recovery in the H2 economy and

heightened concerns over the impact of the sharp fall in oil prices on

the Malaysian economy#

$espite the decline in aggregate surplus liquidity4 liquidity conditions

remained ample at the systemwide level to support e;cient

intermediation and orderly mar&et adjustments# The variety of

monetary instruments available for the liquidity management of the

ban&ing system accorded 3e6ibility to the *an& in meeting mar&et

e6pectations and liquidity needs# >mid rising yields on mar&ete6pectations for an increase in the -P=4 higher issuances of *an&

egara Monetary otes '*Ms+4 especially from Iuly 1@.9 to -ctober

1@.94 were underta&en to meet the strong mar&et demand4 including

that of the nonresident portfolio investors# )onsequently4 total

outstanding *Ms rose from =M.@F#J billion as at end1@.7 to

=M.11#9 billion by ovember 1@.94 in which nonresident holdings

accounted for more than half of the total outstanding *Ms# 8n

$ecember 1@.94 in response to the wea& demand for *Ms amid

capital out3ows4 the issuances of *Ms were adjusted accordingly

and total outstanding *Ms fell to =M.@J#. billion at the end of theyear# (iven the volatility in the global "nancial mar&ets during the

year4 *Ms have been an e5ective tool in managing domestic

liquidity arising from shortterm capital 3ows#

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Major 8ndicators of /inancial 8mbalances