Not so long ago in the press, there was our Institute’s (“Kazakhstan Institute of Industry Development” JSC) vision of the issue of target emission, which caused a wide range of responses from some experts, including representatives of the National Bank. Let me remind you that the meeting with journalists and bloggers was held in a “no ties” format and many aspects of the industrialization process, including problems with limited business access to lending, were discussed in a free, informal way.

At the same time, the term “target emission”, taken out of the context and without an accurate explanation of the meaning that we put in it, really left a huge field for conjectures and interpretations. Therefore, this article is a way to express a more complete opinion, which, I think, will be perceived not so emotionally.

    First of all, it is necessary to understand the reasons for the discussion.

Unfortunately, the reality is that it is almost unreal for an ordinary enterprise to receive a loan from a commercial bank today at a percentage that can be repaid by running business fairly. And to get such a loan for 5-7 years is doubly impossible.

And no matter how they convince us otherwise - this situation is completely not normal, regardless of the level of economic development.

At the same time, subsidizing of rates through state institutions is a market-distorting measure that is quite corruption-prone and ineffective both in terms of procedures and in the coverage of entrepreneurs.

    Therefore, if we want to have a market-oriented, efficient economy in Kazakhstan, we need to seriously analyze whether everything in our monetary policy to date promotes the dynamic development of the country.

Are there enough liquidity tools applied by our National Bank, which are basically, as we understand, focused on short-term operations (coverage of cash gaps in banks)?

     For example, the experience of buying “long” bonds from banks is widespread enough among the foreign central banks, so that banks could give money to their borrowers.

   In Kazakhstan, this and other similar tools are almost not applied and the main argument here is the risk of inflation. How justified are these fears?

Speaking very simply, inflation is a process of depreciation of money, as a result of which you can buy a smaller amount of goods and services for a certain amount of money after a while. Accordingly, the position of containing money is supposedly justified by the fear that because of the excess of the amount of money over the quantity of goods and services produced, the prices for them can grow.

    The basis of monetarism is the quantitative theory of money, one of the apologists of which, Irving Fisher, derived the famous formula MV = PQ in the beginning of the 20th century, where the volume of money in the economy (M) multiplied by the speed of their circulation (V) is equal to the quantity of goods (Q), multiplied by the price (P).

      However, there are many conditions, exceptions and reservations from this postulate.

    For example, the formula does not take into account the impact of export-import transactions and exchange rates, does not take into account the sectoral distribution of funds, when a huge money supply pours into one industry and the prices of its goods grow, and in the second one - the money supply falls and the prices of its goods decrease, and the general price index does not change, but there is a disproportion in the development of industries, etc. in the economy.

In our opinion, the most important thing is that this exchange equation describing the direct relationship between the amount of money and the prices of goods and services works and is true under the normal dynamics of the country's economic development.

As for the cases of structural disproportions and other problems of development - the same equation can have an inverse relationship, i.e. the prices of goods first increase, and then additional money is needed to maintain the speed of turnover of money, as the cost price of products increases, and therefore also increases the required amount of working capital for its production (in our case, it is possible to simply calculate how much it is necessary to increase the money supply to at least offset the consequences of the devaluation of the tenge at the existing share of imports in the balance of domestic production).

If you turn to more modern theorists, you can recall that one of the provisions of the concept of the Nobel laureate in economics, Milton Friedman, who, in fact, is called the father of modern monetarism, is the thesis that the growth of money in the economy provides an increase in production, and it leads to inflation in the achievement of full capacity utilization (data on the current level of capacity utilization of domestic enterprises can be easily found in statistical bulletins).

Therefore, we completely disagree when they say that what you are proposing is completely nonsense, and you do not need proof of it, everything has long been proven by great minds and it's not for us to challenge it!

Depending on the emerging situation at a particular moment in time, the more adequate is that theory or its part that most fully takes into account current and changing conditions. Consequently, one cannot blindly go in the wake of dry theories and dogmas, it is necessary to reinterpret them from time to time.

     Coming to the facts, we only note that the analysis of IMF statistic data shows a feedback: the higher the level of money supply relative to GDP is, the lower is the level of inflation and the higher is the level of lending at lower interest rates.

And then the discussion basically goes to the need to understand what is primary - an egg (a sufficient money supply) or a chicken (a diversified and developed economy)?

Our unconditional position is as follows: a number of conditions must be created for the diversification of the economy, for increasing the opportunities to grow for a broad layer of competitive SMEs, one of which is the possibility of long-term and relatively cheap lending to entrepreneurs of the real sector.

If we are speaking analogies, then if a healthy person who eats right is given more food than he/ she needs - this is likely to lead to obesity and health problems. But if we talk about an exhausted, long time starving organism - then it is probably not the best recipe to continue to feed it at the lowest limit, fearing obesity, and to demand that he/ she gets in shape first, and then to promise to start feeding him- her in normal portions.

At the same time, opponents - those who believe that somehow a strong economy should somehow happen first, and then it will be possible to gradually increase the money supply, consciously or not, often substitute the concept of “target emission” for “unreasonable”.

What is the difference between these two terms and, accordingly, the approaches?

Unreasonable emission is to print a bunch of paper money and distribute to whomever - this is exactly how the supporters of the money supply limit draw the picture. Strangely enough, we are also absolutely against this approach: the financing of budget deficit, improving of the financial stability of quasi-companies, implementing of social projects, etc. should not carried out due to the issue of money.

But, at the same time, it is necessary, through long-term funding of banks, to provide the conditions that allow to give money to the economy and, first of all, to the production and related sectors of services for the development of their productions, the expansion of the product line, the ability to compete with imported goods and on export markets, etc. It is clear that this will increase the production of goods and traded services, therefore, will lead to a decrease in their cost, improving of the trade balance - i.e. this directly corresponds to the task of reducing inflation in the mid- and long-term periods.

Therefore, when it is said that unreasonable emission is harmful in the medium and long term, one should not forget that this is also entirely true for the phenomenon of demonetization of the economy - which helps to restrain inflation in the short term, however, starts its flywheel in the future.

I should repeat that we are against unreasonable emission, aiming of funds at speculative sectors, consumption, financing of projects that do not generate economic benefits, etc. This is just as true as the thesis that any issue, if it is not targeted and is not aimed at stimulating real production of goods and traded services, is likely to be inflation-prone under the conditions prevailing in Kazakhstan.

How to finance a real economy?

There are two options here: either (by distancing themselves from the stimulating role of monetary policy) to continue to do this through the “narrow neck” of quasi-public institutions and the state budget directly or through second-tier banks, but with control over preventing the use of these funds in speculative transactions, for lending to sectors, not producing real goods and traded services, etc.

Since we are in favor of the second model, we use the term “target emission”.

There are many opportunities and tools (for example, through the above-mentioned purchase of targeted long-term bonds of STBs by the National Bank) for the gradual introduction of this tool to stimulate a competitive business, and the main thing is to enable the business to be credited for a long period and at an acceptable rate.

What are the comfortable lending conditions?

One of the comments to our proposals spoke about the liquidity surplus of banks, the reluctance to issue loans and the lack of demand for loans from enterprises. However, here we must understand that this is due to the fact that the established loan conditions do not meet the capabilities of entrepreneurs.

In order to be able to lend at such high rates, an enterprise should have high marginality, which can occur in fast speculative transactions, in trade, in some service sectors, but not in the production sectors (perhaps with the exception of extractive industries).

According to the results of a survey of enterprises in the real sector of the economy conducted by the National Bank, one of the limiting factors of lending to enterprises in STBs is the high gap between actual and acceptable interest rates.

Unfortunately, this gap is growing today. For example, the actual interest rate in the national currency in Q4 2016 was 14.4%, and the acceptable rate was 7.9% per annum, in foreign currency - 8.5 and 4.0%, respectively.

Now, let’s talk little about the long term of lending (by the way, according to the National Bank's classification, long-term loans are loans provided for a period of more than 12 months, which also, in our opinion, needs to be discussed).

The absence of so-called “long” money, due to the limited funding of STBs, has led to the fact that the main source is customer deposits (67.6% as of January 1, 2017), which are mostly placed for short periods.

At the same time, difficulties arise with investing in enterprises' equity capital, modernization and expansion of their assets, production capacities. This, of course, hinders the normal development of any business, and, consequently, the growth of the economy.

            Another conceptual issue that should be considered for understanding the need for money issuance is whether the current level of monetization of the economy corresponds to its real state.

As far as we understand, some serious analysis was to be conducted in order to say that the current level of monetization in Kazakhstan (42%) objectively corresponds to its economic potential. In this case, it would be interesting to read it.

In the meantime, we will try to find the justification for the ongoing policy of limiting of the money supply level.

Let us, for example, consider how the economy of Malaysia, with which Kazakhstan is so fond of comparing, has developed.

Even in 1980, when the country's GDP was equal to 24 billion US dollars, the economy largely depended on exports of oil, palm oil, rubber and other raw materials, and GDP per capita was less than 1 800 US dollars per person, the level of monetization was 81% of GDP (hereinafter - the World Bank data).

Since 1992, this indicator has been steadily maintained at the level of above 100%. At the same time, the correlation between inflation and money supply is negative and is of the order of (-) 59%. That is, with a high degree of probability, it will be fair to say that the more money was in the economy of Malaysia, the lower was the level of inflation.

      

There is also a complete lack of correlation (-2.7%), if you look at the dynamics of the money supply and inflation since 1960. But more interesting is the fact that monetization, comparable to our current level, was observed in this country between 1969 and 1974, when GDP the per capita in Malaysia was about 300-400 US dollars and the country was incomparably weaker economically, than Kazakhstan today. Of course, the Government of this country conducted large-scale reforms, but it is also clear that one of the tools for dynamic development was an active stimulating monetary policy.

Continuing the analysis of the correspondence between the current monetization level of the overall development of the Kazakhstan’s economy, we propose to compare the volumes of the money supply with the level of complexity of the economies of different countries on the basis of the data of the Atlas of economic complexity of the economies of Harvard University.

As of 2014, our country occupied the 77th place (the money supply at that time was approximately 32%).

At the same time, Kuwait occupied the 70^th place with the monetization level of 72.6%, Saudi Arabia - the 71^st place (61.8%), Paraguay – the 74^th place (50.6%), Morocco – the 75^th place (117.6%), Australia – the 79^th place (109.5%), Kyrgyzstan – the 83^rd place (31.1%), Iran – the 97^th place (67.7%).

There is another similar rating characterizing the complexity and diversification of exported goods, compiled by The MIT Media Lab - The Observatory of Economic Complexity. In it, Kazakhstan is in the 48th place.

The analysis also shows the absence of a clearly expressed correlation of this indicator depending on the level of monetization of the economies of different countries.

Here are the countries whose monetization is roughly comparable to the Kazakhstan’s (+/-5%): Peru is in the 87^th place in the rating, Ecuador – in the 96^th, Romania – in the 40^th, Indonesia – in the 75^th, Azerbaijan – in the 79^th, Georgia – in the 65^th, Kenya - in the 95^th, Mongolia – in the 101^st, Congo – in the 135^th, Senegal – in the 88^th.

At the same time, there are countries with money supplies that exceed 42%, which are below our country in the rating: India (the 49^th place in the rating of the complexity of the economy and 79% of the money supply), Australia (the 53^rd place and 114%), Turkey (the 59^th place and 63%), Chile (the 60^th place and 85%) and others.

If we look at the relationship between the level of monetization of economies and the average annual growth rates of different countries - there is also no clear correlation.

It would be interesting to analyze the correlation between the level of SMEs and M3 – however, here again, we return to the first issue on the cause-effect relationship (SMEs are rapidly developing in conditions of easy access to lending or is lending becoming available with high quality SMEs?).

Meanwhile, if we consider the particular case of the dynamics of the share of the gross value added of SMEs in the country's GDP and the changes in the M3 money supply since 2005 (available data) in Kazakhstan, there is no direct correlation between these two indicators ( 33%) as shown in the graph below.

However, there is still open question why, for example, at the level of SMEs of the order of 10% in 2006-2007, the level of monetization was 36%, which is higher than in 2011-2013 with a share of SMEs of about 17%.

We believe that there cannot be an exact model that could tell what level of monetization corresponds to a particular country, and the need for money should be determined by each country in accordance with strategic tasks and needs. We take the liberty to assert that exactly this is happening in the developed countries; otherwise, the level of their monetization would completely correlate with the dynamics of GDP.

In Kazakhstan, in our view, taking into account the plans for the Third Modernization and the provision of a new model of economic growth at the level of 5-6% per year, it will be necessary to take a set of measures, including with regard to the stimulating role of monetary policy - that is, simply execute the corresponding instruction of the Head of the State.

During that meeting with journalists, we referred to our studies, which pointed to the lack of correlation between the dynamics of inflation and change in the money supply.

The specialists of the National Bank use their own data, however, even in this case, the correlation indices of 16% (0.16) and 21% (0.21) were given, which, according to the Chaddock scale used in estimating the relation force of the correlation coefficients, at the value from 0 to 0.3, mean a very weak correlation, which in most cases is not taken into account.

In addition, data on the correlation of above 50% of inflation and the growth of money supply in the monthly calculation (as we understand with a lag of 12 months) were given, however, it is not clear why it is considered that the effect of the increase in money in the economy is maximally manifested exactly in a year, but not in 6 months or 1.5 years. We could agree with the above approach, if the turnover of money in the economy was equal to 1, but this is not true.

Therefore, as it seems to us, it is most acceptable and methodologically correct to take the average indicator for the period - the total growth for the year of both the money supply and the inflation index, since such an approach offsets the factors of different rates of reaction of economic sectors on emission, etc.

But, however, methodological disputes are not as relevant as the definition of a general position on the issue: there is no money in the economy and therefore there is no dynamic development of it, or it does not need money without the dynamic development of the economy.

In conclusion, I would like to note that the issues of actualization of monetary policy are increasingly being discussed by the expert community. It is nice that specialists of the National Bank joined the discussion; it is even more gratifying that their comments were provided with a certain evidence base (because other opponents do not bother to do this at all).

We believe that this can be the beginning of a constructive dialogue, during which we can come to some common opinion regarding the search for a balance between the need to restrain prices and stimulate economic growth.

 

Author: Aidyn Kulseitov, chairman of the “Kazakhstan Industry Development Institute” JSC.