Central Bank Liquidity measures - New Zealand

Economics Economics Questions
1

Is this similar to a bailout??

RBNZ, Federal Reserve announce USD facility

The United States Federal Reserve and the Reserve Bank of New Zealand today announced the establishment of a temporary reciprocal currency arrangement (swap line) to address ongoing elevated pressures in US dollar short-term funding markets.

The Federal Open Market Committee has approved the Reserve Bank’s request for a swap facility that will support the provision of US dollar liquidity to the New Zealand markets in amounts of up to USD15 billion.
This reciprocal currency arrangement has been authorized through to 30 April 2009.

Reserve Bank Deputy Governor Grant Spencer said the facility, like those already established between the Fed and other central banks, is to provide an additional source of liquidity for the US dollar funding market.

“While there is no need to use the facility right now, it is useful to have this capacity if markets become dysfunctional,” Mr Spencer said.

2

edited: I did answer but it seems I answered a completely different question…free bump :wink:

3

It says “edited”. Could you please post your answer again?

4

Hm, interesting. The following article seems to explain the mechanics of it and hints at some of the possible reasons:
http://macroblog.typepad.com/macroblog/2008/09/thursdays-post.html

From what I can tell, those New Zealand banks that need US dollars would ordinarily be able to borrow these from some foreign bank directly… but in present market conditions the banks that would ordinarily do that kind of lending (big US banks, I’m guessing) aren’t budging. The Fed has tried dishing out money to those banks but they just keep sitting on it, or will only lend it out at prices which are prohibitively high.

So because the Fed isn’t happy with the market price of borrowing US dollars, it’s decided to take out these middle men and start dishing US dollars out to the banks of foreign nations directly. So it doesn’t appear to be a bail out of the New Zealand banks, as such.

Why would the New Zealand banks need US dollars? Surely they’d need them to lend to New Zealand customers that had to purchase goods and services in US dollars right? Without access to US dollars, lots of goods and services that the New Zealanders previously sourced from the US would have to be sourced elsewhere or simply not had at all… which probably wouldn’t be to swell for US businesses. Perhaps they would react by starting to accept currencies other than US dollars - after all it would be either that or go under, for the big exporters.

Looking at the flip side, often New Zealand businesses wanting to sell goods and services into the US will need to make contracts in US dollars (since that’s all the US companies will deal in). If they’re going to sell wine to a big super market chain in the US for example, they have to say OK we’ll give you X thousand cases of wine in June for Y USD a bottle. However, if they sign that contract now they’re taking a risk on the exchange rate between the US and the NZ dollar - which is probably not a risk they’re interested in taking (these guys are Wineries, not currency speculators). As such, in order to be able to strike that deal they’re going to need to purchase US dollars immediately in order to hedge their wine contract. That way if the currency shifts against them, they make it back on the US dollars they purchased - so they can be assured of a fixed price, in June, in NZ dollars despite the fact that the contract will be signed in USD. Once again, without access to US dollars these kinds of deals would not be struck and so New Zealand companies would probably sell less to the US if they couldn’t get hold of US dollars.

So either way you look at it, if the Libor is high then lots of deals aren’t going to get done.

What I’m wondering is whether these deals are actualy economical or not in the first place, in view of the fact that the Libor is high. Ordinarily I’d think that a high interest rate was high for a good reason and trying to contourne that fact would probably not be a good idea. However in this case I think the reason the interest rates are high is because money is evaporating from the economy (and particularly from the banking sector) on a daily basis as banks write of more and more debts that they’ve been keeping in their closet. If the US actually had a sound monetary system (for example a gold standard with banks maintaining 100% reserves) then such a situation wouldn’t be possible in the first place. So perhaps what you have is the Fed licking self inflicted wounds. I haven’t really thought this one out though so I’m not sure if that’s true or not.

5

What interest rate would the FED use for these loans? 1% as they recently decreed, or the much higher rate? I agree that today’s interest rate market is confusing because it is no longer a market but a coercion.

6

I don’t think they’re loans, as such… they are exactly what they’re called - swaps. So the Fed takes some kiwi dollars for a while and the RBNZ takes some US dollars for a while. Neither pays interest, I don’t think.

So presumably it’s the RBNZ that will set the interest rate when loaning the USD to New Zealand commercial banks (or perhaps it is made available to them at auction). Whatever the case may be, these rates are no doubt hoped to be more “favorable” than the rates that they would otherwise have to pay in order to borrow the funds from foreign commercial banks.

7

The above is what i missed, my original answer was careless. Basically I said: the NZ central bank swaps money for toxic assetts and so places an inflationary burden on the taxpayer and a moral hazard for the investors, hence being a damagin bailout. I basically assumed what it was going to be about and then shot from the hip (hence just deleting my original comment).

Sorry for my useless posts [;)]