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Business News of Thursday, 30 June 2016

Source: B&FT

Zero deficit financing is premature – IFS

The central bank’s move to halt its financing of government deficit effective this year as directed by the International Monetary Fund (IMF) has been described as “premature” by economic policy think tank Institute for Fiscal Studies.

In the US$916 million Extended Credit Facility (ECF) agreed with the Washington-based lender last year, Bank of Ghana was to pass a legislation that will forbid it from lending to government as part of broader measures to strengthen its inflation targeting mechanism.

Although the new Bank of Ghana Act is in the process of being passed by parliament, the Governor of the bank has already made public its intention of complying with the zero deficit financing conditionality as agreed with the IMF.

But the Accra-based think tank in its evaluation of the second review of the IMF’s Extended Credit Facility argued that, “the proposal in the new Act to eliminate completely Bank of Ghana lending to government starting from 2016, except extreme emergency cases, may be premature.”

The Bank of Ghana Act 662 states that the total of the loans, advances, purchase of treasury bills and securities together with money borrowed by the Government from other banking institutions and the public at the close of a financial year shall not exceed 10 percent of the total revenue of the fiscal year in which the advances were made.

The central bank in 2012 financed government’s deficit to the tune of GH¢2.2 billion which was more than 13 percent of total revenue recorded in that fiscal year.

Executive Director of IFS Prof. Newman Kusi speaking at the news conference in Accra explained that: “When we say it’s premature we mean that the drastic cut is not in the interest of the country. Because whether BoG finances government or not, if the government intends running a deficit, it will do it via the issuance of treasury bills to pay for the deficit – when government does that interest on the T-bills goes up, undermining the inflation targeting merchanism.”

The breach in 2012 aside, it is evident that the central bank lending to government has become crucial for government’s operations over the years.

As a developing country like Ghana, Prof. Kusi argued, “you cannot say that the central bank should not support government. It doesn’t make sense. You can’t compare Ghana to UK, or US where their central banks do not finance deficit; those are strong and tried and tested institutions. How can you say that central bank should not finance government? We oppose that.”

According to him, the rationale behind zero deficit financing of government’s deficit which is to strengthen the inflation targeting tools is flawed.

“In any case that inflation targeting tool is ineffective because the central bank is using an instrument to target something which does not exist. Prices are going up not because there is excessive liquidity in the system. We know the cost of credit and in any case how much of it is going to the private sector. Therefore very little goes to the private sector to support private sector growth.

“Yes there may be some deficiencies regarding the central bank financing of government deficit, but any cut in deficit financing should be done gradually,” he said.