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‘Give new foreign exchange system a chance to work’
Central bank Governor Jwala Rambarran has addressed the foreign exchange hiccup and explains why his newly implemented system is the better bet for the allocation of foreign exchange. In an e-mail interview with the Sunday Guardian, the governor details his new role and fresh plans for the Central Bank of T&T.
Q: What was the thinking behind the Central Bank’s decision to change the auction system for US dollars?
A: The foreign exchange auction system for US dollars has not been changed. It operates under the same mechanism since its inception in May 2012, prior to my appointment in July 2012. Improvements were made to the Central Bank’s foreign exchange allocation system, not the auction system.
The improvements were introduced to realign the Central Bank’s foreign exchange allocation system to match expanding imbalances in the domestic foreign exchange market. In 1993 when the market was liberalised, the shortfall stood at US$44 million. By 2003 this shortfall had widened to US$600 million.
Ten years later, the gap had further widened to US$1,200 million in 2013. Given the economic recovery underway and the anticipated acceleration of economic growth in the next few years, we expect the imbalance in the foreign exchange market to further increase.
Based on these trends, Central Bank made the following changes to its foreign exchange allocation system:
Number of authorised dealers: Only eight of the 12 licenced authorised dealers were part of the 20-year old system that was being used when I came into office. Now, based on the improvements implemented, all 12 authorised dealers are included and can access the allocation system. Two of the newly included authorised dealers form part of the country’s two largest conglomerates. This means the combined foreign exchange demand of these two conglomerates can now be met by the authorised dealers within their group.
Intervention ratio: Central Bank sale of foreign exchange to authorised dealers is done in two ways—a non-competitive sale based on authorised dealers’ market share and an auction to meet any additional demand they may have. Before the improvements to the allocation system, the intervention ratio was roughly split 75 per cent non-competitive and 25 per cent auction.
Now the intervention ratio will vary based on evolving market conditions. At present, the intervention ratio is 50 per cent non-competitive and 50 per cent auction. This is not fundamentally different from what obtained in the past. It makes the distribution of funds more equitable across more authorised dealers.
Volume of interventions: Disbursements prior to April 1 ranged between US$20 million to US$50 million. Presently, the disbursements are larger to cater for the growing imbalances in the foreign exchange market. The two disbursements under the current system amounted to US$50 million (June 5th) and US$200 million (May 27).
Timing of interventions: In the 20-year-old system that operated before April 1, interventions were made when the foreign exchange market was already tight, exacerbating market anxiety. Interventions are now made well before the market tightens, helping to ease market anxiety.
Communications: Previously, Central Bank never communicated its monthly sales of foreign exchange to the general public and to the business community. This information only reached the public when the bank published its twice-yearly Economic Bulletin or Monetary Policy Report. Under the current system, the Central Bank issues a media release to inform the general public and the business community about the volume of its intervention, the reason for the sale and its view on market conditions in the period ahead.
Q: What was wrong with the previous system in which 50 per cent of the foreign exchange was auctioned and 50 per cent was allocated on a pro-rata basis?
A: It is under the improved allocation system implemented on April 1 that the intervention ratio was moved to 50:50, between auction and non-competitive sales.
As I just indicated, the 20-year old allocation system became outdated, especially given the established trends such as foreign exchange demand overtaking supply and the changing composition of foreign exchange demands that now reflect new patterns of consumer spending, such as the use of credit cards for making online payments and new forms of investment. All of this is taking place while the energy sector remains the dominant source of foreign exchange supply.
Q: What was the CB hoping to achieve by implementing the new allocation system?
A: The improved allocation system aims to facilitate a more balanced distribution of intervention funds using all authorised dealers and to inject funds prior to market tightness occurring.
Q: To what extent is the new auction system Jwala Rambarran’s brainchild and do you take personal responsibility for it?
A:As I stated before, the auction system is not new. It was implemented in May 2012 prior to my taking up office in July 2012. The improvements to the Central Bank’s allocation system (of which the auction is just part) resulted from collaboration and consultation with the banks and non-bank financial institutions and from the research and analysis done by the Central Bank on the evolving state of the domestic foreign exchange market.
Do you agree that the auction makes no sense where there is a price cap because the purpose of an auction is to establish the highest price someone is prepared to pay for something?
The cap on the price of the auction ensures that no one authorised dealer secures all of the funds. As such, the funds are allocated in a more equitable manner, reducing price volatility in the domestic foreign exchange market.
Former central banker Terrence Farrell basically trashed the new allocation system in Thursday’s Business Guardian, saying that it has “worsened the situation,” and that “there is no discernible, sensible policy rationale for the changes introduced by the Central Bank.” If you disagree with Dr Farrell, could you please state your reasons for disagreeing.
Many authorised dealers acknowledge that the current allocation system has strong merits and it should be given a chance to work.
The Central Bank is responsible for the management of the foreign exchange market in the public’s interest. Do you think the public’s interest is being served by uncertainty about the availability of foreign exchange?
This is a somewhat limited view of the foreign exchange market. Central Bank’s policy role in the foreign exchange market ensures orderly conditions in the domestic foreign exchange market. We maintain balance between the demand for and supply of foreign exchange in the market, and we also maintain an exchange rate aligned to economic fundamentals.
Since April 1993 the market has been in the hands of the private sector. The Central Bank does not supply 100 per cent of the market needs. It actually supplies around 25 per cent of foreign exchange to the market. Therefore, this situation is not solely a Central Bank issue. The public should know there is no shortage of US currency.
I would like to reiterate the recent advice given by Mr Larry Nath, the president of the Bankers Association, for clients to keep checking in with their banks for US currency. The foreign exchange situation will improve. Central Bank supplied US$250 million to authorised dealers in the past two weeks alone. This, combined with higher conversions by energy companies in June, means there will be sufficient foreign exchange supply to meet demand.
Will such uncertainty not lead to hoarding, the creation of a black market and, inevitably, the depreciation of the exchange rate?
Again, there is no shortage of foreign exchange. The country has sufficient foreign exchange reserves. The public should not panic as this will create an artificial demand. At the end of May 2014 there was an excess supply of US$75 million in the banking system.
Are you prepared to concede that the April 1 forex allocation system has failed and are you prepared to make the necessary changes to prevent T&T’s foreign reserves from being run down to prop up the rate?
The improvements made to the 20-year old foreign exchange allocation system have not failed. To repeat what I said earlier, if these improvements were not made there would have been insufficient supplies to meet growing demands in the US dollar market. This is presently not the case.
The US dollar market is currently in excess supply and can meet demand. The factors contributing to rising demand for foreign exchange will only continue to increase exponentially. Pair this with a 20-year old system and what do you think would have been the natural outcome?
In addition, the Central Bank’s recent interventions have targeted meeting immediate trade-related demand, which benefits the business community. An examination of the US$200 million intervention made on May 27 shows that 231 companies in the retail and distribution sector obtained 38 per cent of the funds, while 79 companies in the manufacturing sector obtained 25 per cent of the funds. Fourteen automobile companies got 11 per cent of the funds.