Russian Currency and Finance

Sterilization Activities and Lender of Last Resort in Recent Currency Board-Like Countries

“…According to the proponents of orthodox rules, currency boards should have only domestic notes and coins on their liabilities side, and these should be fully covered by foreign reserves on the asset side (Hanke et al, 1993). In reality the liabilities of recent CBAs also include reserves of commercial banks, foreign liabilities and other domestic liabilities, whereas the asset side consists of domestic assets as well.…”

“…In the vast majority of the theoretical literature it is held that orthodox currency boards lack a lender of last resort (Hanke et al, 1993;Santiprabhob, 1997;Ghosh et al, 1998;Gale and Vives, 2001;and He, 2000). However, the views on the possibility of using this function under recent currency board-like system diverge a lot.…”

“…That is to say, as long as the monetary liabilities of the central bank are fully covered by foreign reserves, there is no threat to the credibility of the currency board arrangement and excess reserves can be used for LOLR (He, 2000). Other authors argue that currency boards should not extend loans to the banks and propose alternative solutions to solve liquidity problems in the banking system (Schuler, 1992;Schuler, 2003a;Hanke et al, 1993) 14 . Their arguments are based on the idea that foreign reserves should always lie in the range between 100% and 110% of monetary liabilities, preventing monetary authorities from inflationary expansion and ensuring credibility of the currency board.…”

“…This is a set of rules which limits the activities of monetary authorities within a currency board. More precisely, orthodoxy implies that monetary authority obeys these rules: supplies notes and coins only; keeps fixed exchange rate with an anchor currency; keeps foreign reserves of 100% of the monetary base; ensures full convertibility; does not act as lender of last resort; and obeys rule-bound monetary policy, just to mention the most important (Hanke et al, 1993). This set of rules defines an orthodox currency board, which according to its proponents cannot create inflation and finance government deficit.…”

“… 1 Monetary discretion implies the opposite to rule bound monetary policy(Hanke et al, 1993) rather than central bank initiated discretion, which treats standing facilities and overnight loans as non discretionary tools (initiated by counterparties)(Ho, 2002).…”