MANAGING INTEREST RATE
INTEREST RATE MANAGEMENT BY THE CENTRAL BANK OF BANGLADESH
Jan 1, 2007: It appears that Central Bank of Bangladesh has a number of monetary targets. They are to keep price level
within a certain manageable level, economic growth, low level of unemployment, manageable call money rate (inter-bank
interest rate) and so on. Among these, inflation has been appeared to be the central target of the monetary policy set by
the Central Bank of Bangladesh. In other words, Bangladesh Bank has planned to keep its core inflation (that excludes
foods, energy prices etc) rate at 5 percent ( i.e., mid point of a band of 4 to 6 percent) recently.
as an intermediate target. Broad money that includes currency in hand, demand deposit and savings deposit. The
broad money (M2) was targeted to grow at 14.2 percent in the financial year 2005.
The tools that are being used to control money supply are as follows: 1.Repo and Reverse Repo Auctions 2.Various T
bills Auctions, 3. Setting SLR and CRR 4.Bank Rate
Repo and reverse repo transactions are held daily through auctions at Bangladesh Bank. Repo auctions allow Central
Bank to lend fund to financial institutions by purchasing securities, which financial institution will repurchases upon
maturity. In case of reverse repo auctions, financial institutes purchase government securities from Bangladesh bank
upon commitment to sale them back to Bangladesh bank at a later date at a certain interest rate or price. Both repo and
reverse repo rate auctions are for overnight to seven days maturity.
When there is a high demand for Central Bank money by the financial institutes, they (bidders) offer (quote) higher repo
rate to get the money. Usually higher inter-bank interest rate (call rate) leads to higher repo rate.
In addition to this, Inter-bank repo transactions is also conducted among financial institutions for exchanging their
securities among themselves. Market force determines the prices of the securities.
In addition to that, SLR (Statutory Reserve ratio) and CRR (Cash Reserve Requirement) tools are used to control
money supply in the economy. SRR is a percentage of TDL (Time and demand liability or deposit), the financial
institutes must hold in the form of securities with Central Bank. CRR is the cash requirement, financial institutes must
hold out of its total SRR. For example, last time Central Bank of Bangladesh make it compulsory to keep four percent of
the mandated 20 percent SRR in terms of CRR.
When the country heads toward inflation, Central Bank simply increases SLR and CRR to reduce money supply in the
financial system and hence aggregate demand gets squeezed. Due to hike of SLR and CRR, inter bank interest rate
(call money rate) is likely to go up and hence all types of interest rates prevailing in the country.
Central Bank of Bangladesh also uses Bank Rate to control money supply and interest rate.
INTEREST RATE MANAGEMENT BY THE CENTRAL BANK OF INDIA
August 1, 2006: Central Bank of India maintains few key rates to manage interest rate in the country. They are repo rate,
reverse repo rate and bank rate. We may call them trinity in monetary policy of the Central Bank.
Repo rate is that rate at which Central Bank of India pumps or lends short term liquidity into the financial system. During
the time of contraction, repo rates are found to be reduced.
Reverse repo rate is the interest rate at which financial institutes park their short term excess money with Central Bank
of India. In other words, Central Bank borrows money at reverse repo rate from the market. When the economy is in
inflation, the Central Bank simply increases reverse repo rate to reduce money supply in the financial system. With the
reduction of money supply in the system, aggregate spending goes down and hence prices get stable.
Bank rate is another instrument at which Central Bank of India injects money into the system. Bank rate is not a short
term interest rate like repo rate and reverse repo rate. It is a medium term interest rate.
In addition to above instruments, Central Bank also uses Cash Reserve Ratio (CRR), the ratio at which financial
intermediaries must keep their balances with Central Bank. During the heating stage of economy, Central Bank
increases CRR to reduce lending capacity of the financial institutes.
Central Bank of India is named as Reserve Bank of India (RBI) officially.
INTEREST RATE MANAGEMENT BY THE CENTRAL BANK OF USA
May 1, 2006: Key interest rate set by Central Bank is Fed Fund Rate which is inter bank interest rate, the rate at which
one financial institute charges each other over night while short term lending
Instruments to control money supply:
• Open market operation
• Discount window lending
• Reserve requirement
No interest rate operating band is available in the Central Bank of USA like many other Central Banks.
Normally all the financial institutes in the United States change their prime or base lending rate as soon as Federal
Reserve Bank of USA change Fed rate. Not only financial institutes in USA, most of the Central Banks in the world
change their interest rate as soon as the United States changes it.
Indeed Fed rate is the benchmark of the world’s interest rate.
INTEREST RATE MANAGEMENT BY THE CENTRAL BANK OF CANADA
May 1, 2006: Key interest rate set by Central Bank is overnight rate at which one financial institute charges each other
over night while short term lending
There is an interest rate operating corridor available to control interbank interest rate in the money market. They are:
• Bank rate interest - top of the corridor at which Central Bank will give loan to financial institutes (who are
under Large Value Transfer System) for one day.
• Deposit interest - lowest corridor at which financial institutes can park their surplus liquidity with Central
Bank.
• Overnight rate, the key interest rate is set in between bank rate and deposit rate.
The target of the Bank of Canada is to keep inflation from 1 percent to 3 percent as measured by consumer price index.
INTEREST RATE MANAGEMENT BY THE CENTRAL BANK OF NEW ZEALAND
May 1, 2006: Key interest rate set by Central Bank is Official Cash Rate (OCR) which is the rate at which one financial
institute charges each other over night while short term lending
There is an interest rate operating corridor available in the Newzealand Central Bank to control inter-bank interest rate
in the money market.
Reserve Bank pays loan to financial institutes at the 0.25 percent higher than OCR against good security while pays
interest at 0.25 percent below the OCR. OCR is set in between deposit and lending rate. There is no limit of borrowing
and lending by Reserve Bank. So the interest rate corridor is 50 basis points wide.
OCR is reviewed eight times a year
INTEREST RATE MANAGEMENT BY THE EUROPEAN CENTRAL BANK
May 1, 2006: Key interest rate set by the European Central Bank is Main Refinancing Rate which is the rate at which
one financial institute charges each other over night while short term lending
There is an interest rate operating corridor available to control inter bank interest rate in the money market. Deposit rate
is the rate at which other financial institute may park their money with ECB while marginal lending rate is the lending rate
by ECB to all financial institutes against collateral.
ECB continue its open market operation to control money supply and targeted money market interest rate.
The objective of the ECB is to contain inflation close to 2 percent right now.
INTEREST RATE MANAGEMENT BY THE CENTRAL BANK OF MALAYSIA
May 1, 2006: Overnight policy rate (OPR) is the key interest rate set by Central Bank of Malaysia.
The target of Central Bank of Malaysia is to bring OPR close to inter-bank interest rate using its various monetary tools
especially using open market operation
The Monetary Policy Committee is maintaining an interest rate corridor to avoid excess volatility in the interbank interest
rate. To maintain this interest rate corridor, a standing facility is introduced, under this standing facility; there will be a
floor rate (deposit facility) and ceiling rate (lending facility). Deposit facility will be 25 basis point lower than OPR while
lending facility is 25 basis point higher than OPR. So there exists a 50 basis point interest rate corridor.
Interest rate management system set by Central Bank of Malaysia is similar to Central Bank of New Zealand.
INTEREST RATE MANAGEMENT BY THE CENTRAL BANK OF NORWAY
May 1, 2006: The sight deposit rate is the key short term money market interest rate of the Central Bank of Norway.
Central Bank of Norway maintains an interest rate corridor in which short term money market interest rate fluctuates.
The main target of the Central Bank is to bring stability in Krone exchange rate and also inflation.
The ‘ceiling’ in the interest rate corridor has been the interest rate on banks’ overnight loans and the “floor” was the sight
deposit rate. The difference between the overnight loan (ceiling rate) and sight deposit rate is normally 2 percentage
points since 3 August 1993.
Short term money market rates are usually slightly higher than the sight deposit rate.
INTEREST RATE MANAGEMENT BY THE CENTRAL BANK OF SWEDEN
May 1, 2006: The repo rate is the key interest rate used by Central Bank of Sweden to tackle overnight interest rate.
The repo rate is the rate at which banks receive or pay when depositing or borrowing funds at the Riksbank for duration
of seven days.
The target of the monetary policy is to contain inflation around 2 percent a year with a deviation of 1 percentage point
above or below this target.
The Bank has several tools to manage interest rates: They are:
Standing facility: It enables banks to borrow or deposit in Central Bank. The lending rate is a rate at which Central Bank
gives loan is always 0.75 percentage points higher than repo rate while deposit rate at which central Bank accepts
deposit is 0.75 percentages below than repo rate.
Repo rate is always placed at the middle of the lending and deposit rate of the Central Bank.
When the economy is about to face inflation, Central Bank increases repo rate and hence lending and deposit arte also
increases.
Repo rate is reduced to tackle possible recession the economy is heading towards.
Central Bank of Sweden also performs fine tuning operation at the repo rate plus/minus 10 basis points of the repo rate
to stabilize the overnight rate. Fine tuning operation is conducted when banks have borrowing and deposit requirement
at the end of the day.
Central Bank also gives loan to banks under inter-day credit which is interest free by nature but requires collateral. This
credit is provided to settle the payment system of the Central Bank,called RIX.
The Target of the Central Bank is to keep CPI inflation at 2 percent per year.
INTEREST RATE MANAGEMENT BY THE AUSTRALIAN CENTRAL BANK
February 1, 2006: Cash Rate is the key interest rate set by Australian Central Bank to influence all sort of interest rate
prevailing in the country. The interest rate is set in such a way so that the inflation rate stays in between 2 to 3 percent.
The Board of the Central Bank of Australia meets eleven times each year to set interest rate or cash rate. The Central
Bank injects into or withdraws money from the financial system in a way so that overnight interest rate stays close to
targeted cash rate.
Cash rate is an interest rate at which financial intermediaries charge each other. Open market operation is the principle
means to control money supply in the economy.
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