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Central Bank Unveils New Monetary Policy Framework 

ADDIS ABABA – The National Bank of Ethiopia (NBE) has launched a new monetary policy framework, aimed at primarily ensuring price stability in the country.

The central bank announced the launching of the policy framework after a year-long preparatory measures to establish a supportive legal, institutional, and technical basis to meet its objective.

The move sees the NBE adopt a set of new policy tools that, it says, “are better in line with modern central bank practices and more consistent with an increasingly dynamic and market-based financial system.”

Moving to an interest-rate-based monetary policy regime, starting Open Market Operation auctions, and introducing overnight facilities for banks are some of the newly introduced policy measures.

These “are all important initiatives to support NBE in fulfilling the vital set responsibilities – most notably that of ensuring price stability,” the central bank says in a statement today.

Below are a set of policy measures that the NBE announced to fully implement its new monetary policy framework.

Interest-rate based monetary policy regime

First, the national bank says it is moving to an interest-rate based monetary policy regime.

Under the new policy framework, NBE will use a policy interest rate as “the primary means of signaling its policy stance and influencing broader monetary and credit conditions.”

The policy interest rate, named as the National Bank Rate (NBR), will be raised or lowered depending on prevailing inflationary and monetary conditions.

Sets a benchmark policy rate

The national bank has set initial policy interest rate at 15 percent.

This, it says, takes into account current macroeconomic conditions, which are characterized by gradually declining but still elevated inflation, low base money growth, and a marked slowdown of bank credit growth over the past year.

The initial rate is close to the rate at which banks currently lend to each other and is below commercial bank lending rates, which are in the range of 16-20% for most loan categories.

However, the NBR is not meant to fix or set interest rates in the banking sector, which remain determined by the competitive interactions among banks and their clients, stresses the national bank. It would also neither affect nor change the current 7% minimum savings rate.

OMO Auctions

The national bank will also start conducting monetary policy related auctions, known formally as Open Market Operations (OMO). every two weeks, whereby it will either withdraw or supply liquidity to the banking system depending on its assessment of the latest prevailing conditions.

The auctions will be used as the primary monetary policy instrument to ensure that interest rates in the interbank market – the operating target of monetary policy – remain close to the national bank rate.

According to NEB, “When excess liquidity in the banking system leads to significant downward deviations in the interbank market rate from the NBR, the OMO auctions will be used to withdraw excess liquidity from the banking system.

“Conversely, when the banking system as a whole is short of liquid funds resulting in significant upward deviations of the interbank market rate from the NBR, NBE will use OMO auctions to inject liquidity into the banking system.”

The first Open Market Operation (OMO) auction is scheduled for July 11, 2024.

Standing Facilities for banks

The central bank is also introducing an “Overnight Lending Facility” and an “Overnight Deposit Facility” for banks that might need to manage their liquidity positions over just a one-day time horizon.

These facilities, known formally as Standing Facilities, will be offered at the NBR rate plus or minus 3 percent, it says.

E-platform for Interbank Money Market

The NBE will introduce an electronic platform soon that will make it easier for banks to lend to and borrow from each other, thereby facilitating an active and functional “interbank money market”.

The money market, once fully operationalized via a web-based online platform, will allow liquidity-surplus banks to provide funds to liquidity-short banks on a continuous basis.

This allows to address shortage or surplus conditions at specific banks within the banking system and without the need for central bank intervention, the national bank says.

The national bank expects interest rates in the interbank market to align with the national bank rate. However, it says, “should this not be the case, the NBE will intervene using OMO auctions (as outlined earlier) to ensure that the interbank interest rate converges to the NBR”.

Transitory Period

As the shift to the new monetary policy framework is taking effect, the national bank “for a transitory period” retain its previous tools for managing liquidity.

“More specifically, quantitative measures for monetary management may be used as supplementary tools should the new monetary transmission mechanisms turn out to be weaker or slower than initially expected,” it says.

Specific monetary policy instruments for addressing interest-free banking providers will be set by the National Bank in the near future.

NBE has expressed its belief that the newly introduced measures “will address some long-standing weaknesses in Ethiopia’s macroeconomic and banking environments.”

“For the mutual benefit of all involved,” NBE has urged for “the cooperation of all stakeholders to ensure a successful implementation of this new monetary policy package.”