Transition economies have on the whole made good progress in introducing indirect monetary policy instruments, but much still remains to be done to bring monetary operations to modern market standards.

Recent Trends

At present, many transition countries are using monetary programming techniques and adopting monetary operations to foster both market development and monetary control (Table 9). Monetary control is primarily exercised through reserve requirements, refinance facilities that are mainly market based, and, to a limited extent, auctions of treasury bills or central bank liabilities. In addition, outright sales and purchases of government securities in the secondary market are being used in a few countries, but volumes are limited.

Table 9.

Institutional Background for Monetary and Exchange Policy Implementation

Table 9.

Institutional Background for Monetary and Exchange Policy Implementation

	Central Bank Autonomy	Medium-Term Operating Framework and Targets	Short-Term Operating Framework and Targets
Armenia	A revised central bank law is being considered to give more autonomy to the central bank. The draft law states that the prime objective of the central bank is to achieve price stability, while increasing accountability provisions.	Monetary performance criteria under the IMF-supported program include a ceiling on net domestic assets and a floor for net international reserves of the central bank, with an indicative target on broad money.	Sales of foreign exchange have been used to stabilize the exchange rate.
Azerbaijan	A new central bank law has been submitted to Parliament. The draft law contains two key elements. First, the objectives of the central bank to maintain price stability and to develop and strengthen the banking system. The national bank has independence to operate monetary and exchange rate policy. Second, national bank financing of the government is limited to an amount that can be determined by the National Assembly.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the national bank and a floor for the net international reserves of the national bank (on all currencies and on convertible currencies), with an indicative target for manat reserve money.	The exchange rate has been relatively stable in 1995. The national bank supplied about 30% of the market turnover in 1995. The rate began to appreciate in 1996. The national bank has been giving an increasing weight to adhering to a reserve money target. Further strengthening of liquidity forecasting required.
Belarus	Although the main objective of the national bank is to maintain price stability, in practical terms its autonomy is limited. Monetary policy is subordinated to the general macroeconomic policy of the government. A revision of the national bank law is being considered in order to lift ambiguity concerning the role of parliament and the government in determining central bank policies.	Monetary performance criteria under the IMF-supported program include a ceiling on reserve money and on the national domestic assets of the banking system, and a floor for net international reserves. Indicative targets include the national domestic assets of the national bank and the share of national bank credit extended through the credit auction. Following the adoption of the economic stabilization program, interest rates were raised to positive real levels and the nominal exchange rate was stabilized.	Liquidity forecasts are systematically done on a daily basis for the next two weeks. A committee, meeting regularly once a week, has been established to coordinate monetary and exchange operations using a framework that relates day-to-day operations with the performance criteria under the IMF-supported program. Currently, banks’ reserves are the day-to-day operating target.
Estonia	Currency board arrangement. The Bank of Estonia does not lend to the government.	Estonia has a stand-by arrangement with the IMF. Under the performance criteria the currency board liabilities (currency, deposits at the Bank of Estonia, and certificates of deposit) are to be fully backed with foreign exchange at all times.	The central bank is bound by a money creation rule that limits growth in base money to the growth in foreign exchange reserves. Fixed exchange rate. The Bank of Estonia has not been managing the liquidity of the banking system.
Georgia	The objectives of the central bank are to maintain price stability and to foster the liquidity, solvency, and proper functioning of a stable market-based financial system. A new central bank law enhancing the independence of the central bank was enacted in mid-1995. However, the new constitution has created an ambiguous situation.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets and a floor for the net international reserves of the NBG (on all currencies and on convertible currencies), with a financial benchmark for reserve money (includes currency issued, required reserves, and balances in correspondent accounts).	Exchange rate developments in 1995 strongly influenced by the national bank’s interventions in the foreign exchange market (TICEX). Liquidity forecasting: some effort has been put into estimating actual changes in correspondent bank balances from changes in key elements of the national bank’s balance sheet, but estimates are still not useful for liquidity management due to noise in the payment system.
Kazakstan	Under the 1995 central bank law, the national bank is fairly autonomous regarding implementation of monetary policy, however, it may be subject to some influence from the government. For instance, the Supreme Council at the request of the President can dismiss the Governor. The objective of the national bank is to maintain internal and external stability of the national currency. However, the national bank has to grant short-term credit to the government under conditions established in the annual budget.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the national bank and a floor for net international reserves, and an indicative target on base money.	The volume of credit to banks is based on the projections for net foreign assets and national domestic assets. During the second semester of 1995, base money targeting was emphasized because of difficulties in controlling excess liquidity due to capital inflows. As a consequence, the exchange rate appreciated.
Kyrgyz Republic	The law adopted in 1992 established a relatively high degree of autonomy for the national bank. Minor revisions are now under consideration to avoid misunderstandings on the bank’s objectives.	Monetary performance criteria under the IMF-supported program include a ceiling on the national domestic assets of the national bank and a floor on net international reserves. Indicative targets include reserve money and national domestic assets of the banking system.	Empirical quarterly forecasts (based on extrapolations) for the national bank’s balance sheet main items, which are split into monthly figures. Further refinements are required for the forecasting exercise to form a genuine basis for a forecast of the size of the credit, foreign exchange, or treasury bill auctions. Day-to-day monetary conduct keep a close watch on reserve money and central bank credit to the government, in addition to keeping track of the foreign exchange, treasury bill, and credit markets.
Latvia	Large degree of autonomy for the Bank of Latvia.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the Bank of Latvia and a floor for net international reserves, with an indicative target for reserve money and for the national domestic assets of the banking system.	The Bank of Latvia is building a data-base of daily figures that are used for monitoring progress under the monetary program. Difficulties in forecasting the government’s cash flows (in part because it holds accounts in several banks) and lack of coordination between monetary and foreign exchange operations make an active liquidity management difficult. Given current exchange arrangements (the lats has been pegged to the SDR since 1994), the behavior of monetary aggregates is largely determined by developments in the foreign exchange market and government accounts.
Lithuania	Currency board arrangement. The Bank of Lithuania does not lend to the government.	Lithuania has an extended arrangement with the IMF. Under the performance criteria, the currency board liabilities (reserve money and other litas-denominated liabilities) are to be fully backed with foreign exchange at all times. In addition, the exchange rate must be fixed for the duration of the program.	The central bank is bound by a money creation rule that limits growth in base money to the growth in foreign exchange reserves. Fixed exchange rate.
Moldova	The objective of the central bank is to maintain price stability. The national bank has independence to operate monetary and exchange rate policy. The Administrative Council of the national bank, in consultation with the government (primarily the Ministry of Finance), adopts an annual monetary program, which is communicated to parliament every February.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the national bank and a floor for the net international reserves of the national bank, with indicative targets for gross international reserves of the national bank, reserve money, and broad money.	Exchange rate developments in 1995 strongly influenced by the national bank’s interventions in the foreign exchange market. Since November 1995, national bank policy directives give greater weight to adhering to a reserve money target.
Russia	A recently passed central bank law has enhanced the independence of the central bank.	Monetary performance criteria include a ceiling on national domestic assets, defined as currency plus required reserves of commercial banks minus the net international reserves of the monetary authorities (this includes the Central Bank of Russia, the government, and the Vneshekonombank). In addition, there is a floor for the net international reserves and for gross international reserves of the monetary authorities. The Extended Financing Facility arrangement with the IMF includes quarterly performance criteria and monthly indicative targets.	Exchange rate: In July 1995, the central bank announced a band of Rub 4,500–Rub 5,150 per U.S. dollar. The authorities plan to maintain this band during the first half of 1996. Liquidity forecasting: a five-day reporting system, introduced in 1995, allows the central bank to monitor banks’ liquidity.
Tajikistan	The national bank law is incomplete and does not clearly specify its objectives. Under the existing law, the national bank cannot function independently in formulating and executing monetary policy. A new draft is under preparation that substantially enhances the central bank’s autonomy.	Monthly bank-by-bank credit ceilings have been established consistent with overall ceiling for national domestic assets agreed with the IMF.	Short-term operating targets are set in line with the monetary program agreed with the IMF. Foreign exchange operations of the national bank have been used for short-term liquidity management over the last few months. There is no regular liquidity forecasting by the national bank.
Turkmenistan	In the past, the Central Bank of Turkmenistan has had little autonomy in the conduct of monetary policy, with decisions on the quantity and cost of central bank credit generally taken by the government, and enforced by presidential decree. However, a reform program announced in late 1995 has given the central bank more autonomy to implement a monetary policy aimed at reducing monthly inflation to low single digits by the end of 1996. There have been two foreign exchange auctions and one credit auction so far during 1996 (monthly inflation exceeded 60% in January 1996).	No program with the IMF. Monetary programming: progress in this area has been slow, reflecting the difficulty in projecting various balance sheet items in a highly inflationary economy and lack of coordination with the Ministry of Economy and Finance.	No liquidity management or forecasting by the central bank. No short-term operating target.
Ukraine	Current legislation establishes some autonomy for the national bank, but attempts are being made to strengthen this. A new draft law for the national bank has been proposed and discussed but still not passed by parliament.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets and a floor for net international reserves of the national bank, with an indicative target for reserve money.	Within the medium-term framework, it is probably best to think of interest rates as the operating target. Substantial progress in developing a monitoring framework for short-term money and exchange market conditions has been made, as well as a reporting framework for key program variables. Short-term liquidity forecasts are not prepared.
Uzbekistan	A recently passed central bank law has enhanced the independence of the central bank. The main objective of the central bank is to maintain price stability. It has independence to operate monetary and exchange rate policy. However, no formal limit on central bank financing of the government is set; central bank credit extended to the government must be approved by parliament.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the central bank and a floor for the net international reserves of the monetary authorities, with indicative targets for reserve money (currency issued plus banks’ deposits with the central bank).	No liquidity management or forecasting by the central bank. No short-term operating target.

View Table

Table 9.

Institutional Background for Monetary and Exchange Policy Implementation

	Central Bank Autonomy	Medium-Term Operating Framework and Targets	Short-Term Operating Framework and Targets
Armenia	A revised central bank law is being considered to give more autonomy to the central bank. The draft law states that the prime objective of the central bank is to achieve price stability, while increasing accountability provisions.	Monetary performance criteria under the IMF-supported program include a ceiling on net domestic assets and a floor for net international reserves of the central bank, with an indicative target on broad money.	Sales of foreign exchange have been used to stabilize the exchange rate.
Azerbaijan	A new central bank law has been submitted to Parliament. The draft law contains two key elements. First, the objectives of the central bank to maintain price stability and to develop and strengthen the banking system. The national bank has independence to operate monetary and exchange rate policy. Second, national bank financing of the government is limited to an amount that can be determined by the National Assembly.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the national bank and a floor for the net international reserves of the national bank (on all currencies and on convertible currencies), with an indicative target for manat reserve money.	The exchange rate has been relatively stable in 1995. The national bank supplied about 30% of the market turnover in 1995. The rate began to appreciate in 1996. The national bank has been giving an increasing weight to adhering to a reserve money target. Further strengthening of liquidity forecasting required.
Belarus	Although the main objective of the national bank is to maintain price stability, in practical terms its autonomy is limited. Monetary policy is subordinated to the general macroeconomic policy of the government. A revision of the national bank law is being considered in order to lift ambiguity concerning the role of parliament and the government in determining central bank policies.	Monetary performance criteria under the IMF-supported program include a ceiling on reserve money and on the national domestic assets of the banking system, and a floor for net international reserves. Indicative targets include the national domestic assets of the national bank and the share of national bank credit extended through the credit auction. Following the adoption of the economic stabilization program, interest rates were raised to positive real levels and the nominal exchange rate was stabilized.	Liquidity forecasts are systematically done on a daily basis for the next two weeks. A committee, meeting regularly once a week, has been established to coordinate monetary and exchange operations using a framework that relates day-to-day operations with the performance criteria under the IMF-supported program. Currently, banks’ reserves are the day-to-day operating target.
Estonia	Currency board arrangement. The Bank of Estonia does not lend to the government.	Estonia has a stand-by arrangement with the IMF. Under the performance criteria the currency board liabilities (currency, deposits at the Bank of Estonia, and certificates of deposit) are to be fully backed with foreign exchange at all times.	The central bank is bound by a money creation rule that limits growth in base money to the growth in foreign exchange reserves. Fixed exchange rate. The Bank of Estonia has not been managing the liquidity of the banking system.
Georgia	The objectives of the central bank are to maintain price stability and to foster the liquidity, solvency, and proper functioning of a stable market-based financial system. A new central bank law enhancing the independence of the central bank was enacted in mid-1995. However, the new constitution has created an ambiguous situation.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets and a floor for the net international reserves of the NBG (on all currencies and on convertible currencies), with a financial benchmark for reserve money (includes currency issued, required reserves, and balances in correspondent accounts).	Exchange rate developments in 1995 strongly influenced by the national bank’s interventions in the foreign exchange market (TICEX). Liquidity forecasting: some effort has been put into estimating actual changes in correspondent bank balances from changes in key elements of the national bank’s balance sheet, but estimates are still not useful for liquidity management due to noise in the payment system.
Kazakstan	Under the 1995 central bank law, the national bank is fairly autonomous regarding implementation of monetary policy, however, it may be subject to some influence from the government. For instance, the Supreme Council at the request of the President can dismiss the Governor. The objective of the national bank is to maintain internal and external stability of the national currency. However, the national bank has to grant short-term credit to the government under conditions established in the annual budget.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the national bank and a floor for net international reserves, and an indicative target on base money.	The volume of credit to banks is based on the projections for net foreign assets and national domestic assets. During the second semester of 1995, base money targeting was emphasized because of difficulties in controlling excess liquidity due to capital inflows. As a consequence, the exchange rate appreciated.
Kyrgyz Republic	The law adopted in 1992 established a relatively high degree of autonomy for the national bank. Minor revisions are now under consideration to avoid misunderstandings on the bank’s objectives.	Monetary performance criteria under the IMF-supported program include a ceiling on the national domestic assets of the national bank and a floor on net international reserves. Indicative targets include reserve money and national domestic assets of the banking system.	Empirical quarterly forecasts (based on extrapolations) for the national bank’s balance sheet main items, which are split into monthly figures. Further refinements are required for the forecasting exercise to form a genuine basis for a forecast of the size of the credit, foreign exchange, or treasury bill auctions. Day-to-day monetary conduct keep a close watch on reserve money and central bank credit to the government, in addition to keeping track of the foreign exchange, treasury bill, and credit markets.
Latvia	Large degree of autonomy for the Bank of Latvia.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the Bank of Latvia and a floor for net international reserves, with an indicative target for reserve money and for the national domestic assets of the banking system.	The Bank of Latvia is building a data-base of daily figures that are used for monitoring progress under the monetary program. Difficulties in forecasting the government’s cash flows (in part because it holds accounts in several banks) and lack of coordination between monetary and foreign exchange operations make an active liquidity management difficult. Given current exchange arrangements (the lats has been pegged to the SDR since 1994), the behavior of monetary aggregates is largely determined by developments in the foreign exchange market and government accounts.
Lithuania	Currency board arrangement. The Bank of Lithuania does not lend to the government.	Lithuania has an extended arrangement with the IMF. Under the performance criteria, the currency board liabilities (reserve money and other litas-denominated liabilities) are to be fully backed with foreign exchange at all times. In addition, the exchange rate must be fixed for the duration of the program.	The central bank is bound by a money creation rule that limits growth in base money to the growth in foreign exchange reserves. Fixed exchange rate.
Moldova	The objective of the central bank is to maintain price stability. The national bank has independence to operate monetary and exchange rate policy. The Administrative Council of the national bank, in consultation with the government (primarily the Ministry of Finance), adopts an annual monetary program, which is communicated to parliament every February.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the national bank and a floor for the net international reserves of the national bank, with indicative targets for gross international reserves of the national bank, reserve money, and broad money.	Exchange rate developments in 1995 strongly influenced by the national bank’s interventions in the foreign exchange market. Since November 1995, national bank policy directives give greater weight to adhering to a reserve money target.
Russia	A recently passed central bank law has enhanced the independence of the central bank.	Monetary performance criteria include a ceiling on national domestic assets, defined as currency plus required reserves of commercial banks minus the net international reserves of the monetary authorities (this includes the Central Bank of Russia, the government, and the Vneshekonombank). In addition, there is a floor for the net international reserves and for gross international reserves of the monetary authorities. The Extended Financing Facility arrangement with the IMF includes quarterly performance criteria and monthly indicative targets.	Exchange rate: In July 1995, the central bank announced a band of Rub 4,500–Rub 5,150 per U.S. dollar. The authorities plan to maintain this band during the first half of 1996. Liquidity forecasting: a five-day reporting system, introduced in 1995, allows the central bank to monitor banks’ liquidity.
Tajikistan	The national bank law is incomplete and does not clearly specify its objectives. Under the existing law, the national bank cannot function independently in formulating and executing monetary policy. A new draft is under preparation that substantially enhances the central bank’s autonomy.	Monthly bank-by-bank credit ceilings have been established consistent with overall ceiling for national domestic assets agreed with the IMF.	Short-term operating targets are set in line with the monetary program agreed with the IMF. Foreign exchange operations of the national bank have been used for short-term liquidity management over the last few months. There is no regular liquidity forecasting by the national bank.
Turkmenistan	In the past, the Central Bank of Turkmenistan has had little autonomy in the conduct of monetary policy, with decisions on the quantity and cost of central bank credit generally taken by the government, and enforced by presidential decree. However, a reform program announced in late 1995 has given the central bank more autonomy to implement a monetary policy aimed at reducing monthly inflation to low single digits by the end of 1996. There have been two foreign exchange auctions and one credit auction so far during 1996 (monthly inflation exceeded 60% in January 1996).	No program with the IMF. Monetary programming: progress in this area has been slow, reflecting the difficulty in projecting various balance sheet items in a highly inflationary economy and lack of coordination with the Ministry of Economy and Finance.	No liquidity management or forecasting by the central bank. No short-term operating target.
Ukraine	Current legislation establishes some autonomy for the national bank, but attempts are being made to strengthen this. A new draft law for the national bank has been proposed and discussed but still not passed by parliament.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets and a floor for net international reserves of the national bank, with an indicative target for reserve money.	Within the medium-term framework, it is probably best to think of interest rates as the operating target. Substantial progress in developing a monitoring framework for short-term money and exchange market conditions has been made, as well as a reporting framework for key program variables. Short-term liquidity forecasts are not prepared.
Uzbekistan	A recently passed central bank law has enhanced the independence of the central bank. The main objective of the central bank is to maintain price stability. It has independence to operate monetary and exchange rate policy. However, no formal limit on central bank financing of the government is set; central bank credit extended to the government must be approved by parliament.	Monetary performance criteria under the IMF-supported program include a ceiling on national domestic assets of the central bank and a floor for the net international reserves of the monetary authorities, with indicative targets for reserve money (currency issued plus banks’ deposits with the central bank).	No liquidity management or forecasting by the central bank. No short-term operating target.

Direct instruments are now seldom used. Tajikistan is the only country using bank-by-bank credit ceilings and, together with Uzbekistan, still imposes limits on cash withdrawals. Armenia phased out limitations on cash withdrawals in 1995. In most countries, commercial banks are free to set deposit and lending interest rates. However, in 1994 and 1995 countries such as Belarus, Ukraine, and Turkmenistan reimposed interest rate controls (Table 10). Still in other countries, high real lending rates prompted in part the implementation of indirect measures to control increases in interest rates such as the one introduced in Kazakstan in 1995.¹⁰

Table 10.

Money Markets and Interest Rate Management

Table 10.

Money Markets and Interest Rate Management

	Money Market
	Interbank Market	Government Securities Market	Interest Rate Management
Armenia	Interbank market operates freely since July 1995. Trading is low in part due to risks perceived in lending to some banks, absence of collateral, and preference of banks to continue financing themselves through the credit auction of the central bank.	Primary market: auctioning of treasury bills started in September 1995, with pre-announced minimum price, uniform price auction. The Ministry of Finance decides on timing, amount, and cut-off price. Outstanding volumes are small; maturity of bills is mostly one month. Secondary market is virtually nonexistent.	Deposit and lending rates for commercial banks are free. Refinance rate set by the central bank (positive in real terms throughout 1995). Used for setting interest rate on loans to government, the overdraft rate, and some private loans of commercial banks.
Azerbaijan	Interbank market: most commercial banks redeposit their clients’ foreign currency deposits in the International Bank; some interbank deposits in manat occur; commercial banks are allowed to offer refinanced credit at the credit auction, but in practice only the central bank offers credit.	No treasury bills market.	Deposit and lending rates for commercial banks are free. Refinance rate since March 1995, determined at the credit auction.
Belarus	Interbank market developed steadily throughout 1995. The market became volatile toward the end of 1995, as a result or the merger of Belarusbank and the Savings Bank, and the transfer of government and state enterprise deposits to the newly created entity.	Primary market: auctioning of treasury bills started in 1994 using the multiple price auction. The Ministry of Finance decides on timing, amount, and the cut-off price. Volumes have been growing; maturity of bills are from one to six months. Secondary market has been growing.	Lending rates on loans refinanced by the national bank may not exceed the refinance rate plus a preset margin. Deposit rates: minimum rate on deposit introduced in 1994 to overcome banks’ resistance to raising rates to positive level in real terms was eliminated in 1995. Refinance rate: set by the national bank and adjusted regularly with a view to keeping it above anticipated inflation.
Estonia	Interbank market: variability of rates is low; banks use interbank market actively to minimize excess reserves, average daily volume fluctuates between 0.5% and 1% of base money. Bank of Estonia certificates of deposit (CDs) used as collateral in interbank operations; CDs were issued for market development purposes.	No treasury bills market.	Deposit and lending rates: commercial banks are free to set these rates. Interest rates follow closely German rates. The Bank of Estonia certificate of deposit rate has generally tracked the deutsche mark interbank market rate. Interbank market rate: rates on uncollateralized credit slightly above the Bank of Estonia’s CD rate.
Georgia	Interbank market: commercial banks are allowed to borrow and lend at the credit auction, but only a few banks participate. Banks that have surplus funds are reluctant to lend owing to the absence of significant excess liquidity given the volatility of payments flows and the lack of a commercial approach to liquidity management in some of the banks. Banks in need of funds have also stayed out of the auction because of concern about the high cost of borrowing through it.	No treasury bills market.	Lending and deposit rates: commercial banks are free to set the rates. Positive real rates have not attracted deposits due to the lack of confidence in the banking system and to prudential limits on mobilization of household deposits that cannot exceed a bank’s capital.
Kazakstan	A short-term money market (Almaty Interbank Financial Houses—AIFH) was established in April 1995 with participation of the national bank and ten banks licensed by the national bank. Daily trading for maturity of 1–28 days with settlement on the books of the national bank. Collateral required for transactions of more than 14 days. In September 1995, the national bank started actively to trade on both sides of the market. The AIFH can serve as a channel through which the national bank can influence interest rates. The next stage is to develop active indirect participation by nonmembers, that is, between member and nonmember banks.	Primary market: first auction took place in April 1994. Due to decline of inflation, maturity of treasury bills was extended to six months in July 1995. Instrument for budget deficit financing only. Secondary market (OTC) in early stages of development although trading has expanded including through repurchase agreements. The national bank is planning to sanction a standard repurchase contract in 1996.	Lending and deposit rates for banks are free. However, borrowers that pay interest rates above 1.5 times the refinance rate are not permitted to count the extra interest payments as a cost in their profit-and-loss statements. Interest rates in real terms are positive; banks’ margin are high. Refinance rate: set by the national bank. It is adjusted regularly in line with inflation to keep it positive in real terms.
Kyrgyz Republic	Interbank market operates freely. Trading is low but growing. The volume of interbank credit exceeded total new credits extended by the national bank during April-September 1995. Development of the market is hampered by the large number of insolvent banks and unsuitable collateral. Activity in the market involves mainly small new banks.	Primary market: weekly multiple rate auctions of 3-month treasury bills. Six-month and 12-month treasury bills were also issued in 1995. Secondary market: following a streamlining of trading procedures, transactions emerged in 1995.	Deposit and lending rates for commercial banks are free. No refinance rate set by the national bank.
Latvia	Interbank market operates freely. Maturities traded vary from overnight to between three months and one year. Activity and competition are constrained because of the perceived risks involved in lending to some banks. Situation deteriorated sharply after the banking crisis (spring of 1995).	Primary market: auctions of treasury bills introduced in December 1993 (multiple price auction). Now 28-day, 91-day, 182-day, and 1-year bills are offered in weekly auctions. The Ministry of Finance decides on timing, amount, and cut-off price. Secondary market still very thin but picking up. Few banks are really active, and the amounts traded are small. Secondary window established by the Bank of Latvia in April 1994 provided increasing liquidity to the market.	Deposit and lending rates for banks are free. Deposit rates have become negative in real terms and banks have been reluctant to raise for fear that the public would associate higher rates with higher risk. Refinance rate set by the Bank of Latvia taking into account macroeconomic indicators. Reduced in 1995 to induce lower market rates, but given small amount of refinance credits, there was little impact on the market.
Lithuania	Interbank market operates freely. Limited activity due to banking crisis (beginning of 1996).	Primary market: auctions of treasury bills introduced in July 1994 (multiple price auction). One-month and three-month bills are offered in weekly auctions, but the demand for one-months bills has been higher. No cut-off rate is set prior to the auction. Given that yields on treasury bills increased rapidly in January 1996 (from 18% to 28% in less than two months), the Bank of Lithuania decided not to enforce penalties on reserve requirements to sustain the demand for treasury bills. Secondary market: the Stock Exchange organizes weekly trading sessions; the turnover is very limited in part due to tax regulations. The capital gain tax is only applied to bills sold before maturity, not to those held to maturity.	Deposit and lending rates for banks are free. Although interest rates declined dramatically following the establishment of the currency board arrangement, they remained substantially above international rates. This could be explained by devaluation expectations, by the higher risk associated with Lithuanian banks, and, in the case of lending rates, by the lack of collateral.
Moldova	Interbank market operates freely.	Primary market: auctions of treasury bills introduced in March 1995; 91-day treasury bills are offered every two weeks; the amount of bids accepted is adjusted to influence prices, although this practice is being greatly reduced; most sales are to banks approved as primary dealers, but sales to more banks are growing. Secondary market: trading is beginning to get under way.	On February 1994, the national bank eliminated all remaining limits on interest rate margins applied to national bank credit on-lent to commercial banks, with the exception of loans guaranteed by the government. Refinance rate: since November 1993 has been established by credit auctions. Overdrafts are not allowed.
Russia	Until August 1995, active markets in local and foreign exchange; following the August interbank market crisis, severe drop in volumes and market segmentation. Arbitrage taking place within regions and markets are becoming integrated nationally; core activity is at banks that are money centers or clearing banks and at financial organizations owned by commercial banks: typical maturities of ruble deposits and loans vary from three days to six months.	Primary market: Market in treasury bills (GKOs) since May 1993; treasury bills auctioned mainly for debt-management purposes. In 1995, a new debt instrument. the OFZ, was introduced, with maturity longer than one year and with the interest rate coupon linked to the yield on three-month GKOs. In March 1996, outstanding amount of government securities was over 3% of GDP (GKOs, 2.6% of GDP: OFZs, 0.8% of GDP). Secondary market: Screen-based market administered by the MICEX (mainly Moscow); rapidly growing: treasury bills are traded at MICEX thrice weekly; two-hour trading sessions among dealers. More than 100 dealers operate in the market; trading is on an order-matching basis; all bills are held in electronic book-entry form at MICEX where dealers also maintain cash; regional trading is expected to begin soon with banks outside Moscow having on-line access to the secondary market at MICEX (not between regions).	Deposit and lending rates of commercial banks are free. Refinance rate: set by the central bank, since April 1994 rate above the interbank rate; sets a floor on the credit auction rate. Not actively used. Overdraft rate: set by the central bank; penal rate.
Tajikistan	Interbank money market is still embryonic. An interbank credit auction market was established in May 1995 to facilitate interbank transactions. Market auction came to a halt in August 1995, but new operating instructions are being prepared.	No market for government securities yet.	Lending and deposit rates for banks are free (elimination in 1995 of the 10% maximum margin between banks lending rates and cost of funds). Rates are negative in real terms and do not respond to national bank refinance rate changes. Refinance rate set by the national bank and raised recently to lake account of inflation.
Turkmenistan	Interbank market: commercial banks are allowed to borrow and lend at the credit auction. Few banks participate, most funds offered by the Savings Bank.	Primary market for government bonds: unsuccessful attempt to place ten-year government bonds; issued on tap with a coupon interest rate of 5% a year and partially indexed to inflation (up to 100% of the face value). Primary market for treasury bills: issued since July 1994 at fixed interest rates, the rate varies on each issue; nonnegotiable; maturity is three months; issued in book-entry form; bought by commercial banks; the Ministry of Economy and Finance has acted independently from the central bank when issuing the treasury bills.	Commercial banks except the Savings Bank have a large degree of freedom in setting their deposit and lending rates. Deposit rates at the Savings Bank are set administratively in consultation with the government. Market rates are negative in real terms due to excess liquidity. Ceiling of 15% on commercial bank loans to state enterprises eliminated in late 1995. Refinance rate in 1995 set by the government at below market rates. Directed credit rate in 1995 set by Presidential Decree at zero.
Ukraine	Interbank money market is still embryonic.	Primary market for treasury bills: regular weekly multiple-price auctions started in 1995 with three-month treasury bills. Six-and nine-month treasury bills are also auctioned. The Ministry of Finance decides on timing, amount, and cut-off price after considering the national bank’s advice. Cut-off price related to national bank refinance rate. Secondary market for treasury bills is very thin. Trading mostly through repurchase agreements. The national bank is planning to establish a secondary auction.	A required link between lending rates and the refinance rate was introduced by the national bank in 1995. Deposit rates are free and move in concert with the refinance rate—the link established in 1995 by the national bank was indicative rather than compulsory. Refinance rate set by the national bank and adjusted to be in line with inflation—normally positive in real terms.
Uzbekistan	Interbank market: commercial banks are allowed to borrow and lend at the credit auction, but most credit provided by the central bank.	First issue of treasury bills, March 1996. One billion sum offered. 829 million taken up. Maturity three months.	Commercial banks are free to set lending and deposit rates. Refinance rate: adjusted in consideration of inflation and market development.

View Table

Table 10.

Money Markets and Interest Rate Management

	Money Market
	Interbank Market	Government Securities Market	Interest Rate Management
Armenia	Interbank market operates freely since July 1995. Trading is low in part due to risks perceived in lending to some banks, absence of collateral, and preference of banks to continue financing themselves through the credit auction of the central bank.	Primary market: auctioning of treasury bills started in September 1995, with pre-announced minimum price, uniform price auction. The Ministry of Finance decides on timing, amount, and cut-off price. Outstanding volumes are small; maturity of bills is mostly one month. Secondary market is virtually nonexistent.	Deposit and lending rates for commercial banks are free. Refinance rate set by the central bank (positive in real terms throughout 1995). Used for setting interest rate on loans to government, the overdraft rate, and some private loans of commercial banks.
Azerbaijan	Interbank market: most commercial banks redeposit their clients’ foreign currency deposits in the International Bank; some interbank deposits in manat occur; commercial banks are allowed to offer refinanced credit at the credit auction, but in practice only the central bank offers credit.	No treasury bills market.	Deposit and lending rates for commercial banks are free. Refinance rate since March 1995, determined at the credit auction.
Belarus	Interbank market developed steadily throughout 1995. The market became volatile toward the end of 1995, as a result or the merger of Belarusbank and the Savings Bank, and the transfer of government and state enterprise deposits to the newly created entity.	Primary market: auctioning of treasury bills started in 1994 using the multiple price auction. The Ministry of Finance decides on timing, amount, and the cut-off price. Volumes have been growing; maturity of bills are from one to six months. Secondary market has been growing.	Lending rates on loans refinanced by the national bank may not exceed the refinance rate plus a preset margin. Deposit rates: minimum rate on deposit introduced in 1994 to overcome banks’ resistance to raising rates to positive level in real terms was eliminated in 1995. Refinance rate: set by the national bank and adjusted regularly with a view to keeping it above anticipated inflation.
Estonia	Interbank market: variability of rates is low; banks use interbank market actively to minimize excess reserves, average daily volume fluctuates between 0.5% and 1% of base money. Bank of Estonia certificates of deposit (CDs) used as collateral in interbank operations; CDs were issued for market development purposes.	No treasury bills market.	Deposit and lending rates: commercial banks are free to set these rates. Interest rates follow closely German rates. The Bank of Estonia certificate of deposit rate has generally tracked the deutsche mark interbank market rate. Interbank market rate: rates on uncollateralized credit slightly above the Bank of Estonia’s CD rate.
Georgia	Interbank market: commercial banks are allowed to borrow and lend at the credit auction, but only a few banks participate. Banks that have surplus funds are reluctant to lend owing to the absence of significant excess liquidity given the volatility of payments flows and the lack of a commercial approach to liquidity management in some of the banks. Banks in need of funds have also stayed out of the auction because of concern about the high cost of borrowing through it.	No treasury bills market.	Lending and deposit rates: commercial banks are free to set the rates. Positive real rates have not attracted deposits due to the lack of confidence in the banking system and to prudential limits on mobilization of household deposits that cannot exceed a bank’s capital.
Kazakstan	A short-term money market (Almaty Interbank Financial Houses—AIFH) was established in April 1995 with participation of the national bank and ten banks licensed by the national bank. Daily trading for maturity of 1–28 days with settlement on the books of the national bank. Collateral required for transactions of more than 14 days. In September 1995, the national bank started actively to trade on both sides of the market. The AIFH can serve as a channel through which the national bank can influence interest rates. The next stage is to develop active indirect participation by nonmembers, that is, between member and nonmember banks.	Primary market: first auction took place in April 1994. Due to decline of inflation, maturity of treasury bills was extended to six months in July 1995. Instrument for budget deficit financing only. Secondary market (OTC) in early stages of development although trading has expanded including through repurchase agreements. The national bank is planning to sanction a standard repurchase contract in 1996.	Lending and deposit rates for banks are free. However, borrowers that pay interest rates above 1.5 times the refinance rate are not permitted to count the extra interest payments as a cost in their profit-and-loss statements. Interest rates in real terms are positive; banks’ margin are high. Refinance rate: set by the national bank. It is adjusted regularly in line with inflation to keep it positive in real terms.
Kyrgyz Republic	Interbank market operates freely. Trading is low but growing. The volume of interbank credit exceeded total new credits extended by the national bank during April-September 1995. Development of the market is hampered by the large number of insolvent banks and unsuitable collateral. Activity in the market involves mainly small new banks.	Primary market: weekly multiple rate auctions of 3-month treasury bills. Six-month and 12-month treasury bills were also issued in 1995. Secondary market: following a streamlining of trading procedures, transactions emerged in 1995.	Deposit and lending rates for commercial banks are free. No refinance rate set by the national bank.
Latvia	Interbank market operates freely. Maturities traded vary from overnight to between three months and one year. Activity and competition are constrained because of the perceived risks involved in lending to some banks. Situation deteriorated sharply after the banking crisis (spring of 1995).	Primary market: auctions of treasury bills introduced in December 1993 (multiple price auction). Now 28-day, 91-day, 182-day, and 1-year bills are offered in weekly auctions. The Ministry of Finance decides on timing, amount, and cut-off price. Secondary market still very thin but picking up. Few banks are really active, and the amounts traded are small. Secondary window established by the Bank of Latvia in April 1994 provided increasing liquidity to the market.	Deposit and lending rates for banks are free. Deposit rates have become negative in real terms and banks have been reluctant to raise for fear that the public would associate higher rates with higher risk. Refinance rate set by the Bank of Latvia taking into account macroeconomic indicators. Reduced in 1995 to induce lower market rates, but given small amount of refinance credits, there was little impact on the market.
Lithuania	Interbank market operates freely. Limited activity due to banking crisis (beginning of 1996).	Primary market: auctions of treasury bills introduced in July 1994 (multiple price auction). One-month and three-month bills are offered in weekly auctions, but the demand for one-months bills has been higher. No cut-off rate is set prior to the auction. Given that yields on treasury bills increased rapidly in January 1996 (from 18% to 28% in less than two months), the Bank of Lithuania decided not to enforce penalties on reserve requirements to sustain the demand for treasury bills. Secondary market: the Stock Exchange organizes weekly trading sessions; the turnover is very limited in part due to tax regulations. The capital gain tax is only applied to bills sold before maturity, not to those held to maturity.	Deposit and lending rates for banks are free. Although interest rates declined dramatically following the establishment of the currency board arrangement, they remained substantially above international rates. This could be explained by devaluation expectations, by the higher risk associated with Lithuanian banks, and, in the case of lending rates, by the lack of collateral.
Moldova	Interbank market operates freely.	Primary market: auctions of treasury bills introduced in March 1995; 91-day treasury bills are offered every two weeks; the amount of bids accepted is adjusted to influence prices, although this practice is being greatly reduced; most sales are to banks approved as primary dealers, but sales to more banks are growing. Secondary market: trading is beginning to get under way.	On February 1994, the national bank eliminated all remaining limits on interest rate margins applied to national bank credit on-lent to commercial banks, with the exception of loans guaranteed by the government. Refinance rate: since November 1993 has been established by credit auctions. Overdrafts are not allowed.
Russia	Until August 1995, active markets in local and foreign exchange; following the August interbank market crisis, severe drop in volumes and market segmentation. Arbitrage taking place within regions and markets are becoming integrated nationally; core activity is at banks that are money centers or clearing banks and at financial organizations owned by commercial banks: typical maturities of ruble deposits and loans vary from three days to six months.	Primary market: Market in treasury bills (GKOs) since May 1993; treasury bills auctioned mainly for debt-management purposes. In 1995, a new debt instrument. the OFZ, was introduced, with maturity longer than one year and with the interest rate coupon linked to the yield on three-month GKOs. In March 1996, outstanding amount of government securities was over 3% of GDP (GKOs, 2.6% of GDP: OFZs, 0.8% of GDP). Secondary market: Screen-based market administered by the MICEX (mainly Moscow); rapidly growing: treasury bills are traded at MICEX thrice weekly; two-hour trading sessions among dealers. More than 100 dealers operate in the market; trading is on an order-matching basis; all bills are held in electronic book-entry form at MICEX where dealers also maintain cash; regional trading is expected to begin soon with banks outside Moscow having on-line access to the secondary market at MICEX (not between regions).	Deposit and lending rates of commercial banks are free. Refinance rate: set by the central bank, since April 1994 rate above the interbank rate; sets a floor on the credit auction rate. Not actively used. Overdraft rate: set by the central bank; penal rate.
Tajikistan	Interbank money market is still embryonic. An interbank credit auction market was established in May 1995 to facilitate interbank transactions. Market auction came to a halt in August 1995, but new operating instructions are being prepared.	No market for government securities yet.	Lending and deposit rates for banks are free (elimination in 1995 of the 10% maximum margin between banks lending rates and cost of funds). Rates are negative in real terms and do not respond to national bank refinance rate changes. Refinance rate set by the national bank and raised recently to lake account of inflation.
Turkmenistan	Interbank market: commercial banks are allowed to borrow and lend at the credit auction. Few banks participate, most funds offered by the Savings Bank.	Primary market for government bonds: unsuccessful attempt to place ten-year government bonds; issued on tap with a coupon interest rate of 5% a year and partially indexed to inflation (up to 100% of the face value). Primary market for treasury bills: issued since July 1994 at fixed interest rates, the rate varies on each issue; nonnegotiable; maturity is three months; issued in book-entry form; bought by commercial banks; the Ministry of Economy and Finance has acted independently from the central bank when issuing the treasury bills.	Commercial banks except the Savings Bank have a large degree of freedom in setting their deposit and lending rates. Deposit rates at the Savings Bank are set administratively in consultation with the government. Market rates are negative in real terms due to excess liquidity. Ceiling of 15% on commercial bank loans to state enterprises eliminated in late 1995. Refinance rate in 1995 set by the government at below market rates. Directed credit rate in 1995 set by Presidential Decree at zero.
Ukraine	Interbank money market is still embryonic.	Primary market for treasury bills: regular weekly multiple-price auctions started in 1995 with three-month treasury bills. Six-and nine-month treasury bills are also auctioned. The Ministry of Finance decides on timing, amount, and cut-off price after considering the national bank’s advice. Cut-off price related to national bank refinance rate. Secondary market for treasury bills is very thin. Trading mostly through repurchase agreements. The national bank is planning to establish a secondary auction.	A required link between lending rates and the refinance rate was introduced by the national bank in 1995. Deposit rates are free and move in concert with the refinance rate—the link established in 1995 by the national bank was indicative rather than compulsory. Refinance rate set by the national bank and adjusted to be in line with inflation—normally positive in real terms.
Uzbekistan	Interbank market: commercial banks are allowed to borrow and lend at the credit auction, but most credit provided by the central bank.	First issue of treasury bills, March 1996. One billion sum offered. 829 million taken up. Maturity three months.	Commercial banks are free to set lending and deposit rates. Refinance rate: adjusted in consideration of inflation and market development.

In spite of good progress, the implementation of monetary policy would benefit from both an improvement in monetary programming and a strengthening of monetary control instruments. In particular, in most countries the coordination of a mix of indirect instruments of monetary policy through a framework for short-term liquidity forecast and active liquidity management remains weak.¹¹ The implementation of such a framework on a day-to-day basis poses a number of problems mainly owing to limited coordination between monetary and foreign exchange operations, and to difficulties in forecasting certain balance sheet items such as net credit to government and net other items. These problems not only make it difficult to have an active liquidity management, but also complicate the determination of central bank interventions consistent with monetary policy targets.

In countries where the interbank market has begun to play a role in allocating resources among financial institutions, reforms tend to aim at linking the rate used in standing facilities with that used in market-based monetary instruments.¹² A few countries such as Azerbaijan, the Kyrgyz Republic, Moldova, and Russia follow a pure “market-cost” approach by charging a refinance rate based on a market-related rate. While in Russia, the refinance rate is adjusted in line with the interbank market rate,¹³ in the other countries it is determined at the credit auction. In the latter case, it is adjusted as frequently as credit auctions are scheduled. Other countries (Belarus, Kazakstan, Latvia, Tajikistan, Ukraine, Uzbekistan) have adopted a more “interventionist” approach linking the interest rate charged for access to the standing refinance facility to the inflation rate. In some cases, however, such frameworks are not effective in steering market rates to positive levels in real terms owing to the small amount of refinance credit granted by the central bank.

In most countries, reserve requirements play an important role in monetary control; however, compliance problems have partially diminished the effectiveness of this instrument. At least in 1995, the effective reserve ratio was significantly below the required ratio in Moldova and Russia. In all countries except Russia, legal reserve ratios are uniform; these ratios vary from 8 percent in Latvia and Moldova to 30 percent in Uzbekistan (Table 11). Reserve averaging is not yet common.

Table 11.

Instruments and Operating Arrangements

Table 11.

Instruments and Operating Arrangements

	Reserve Requirements	Standing and Nonmarket-Based Discretionary Facilities	Market Operations	Other Instruments
Armenia	Uniform ratio of 15% for all dram- and foreign-denominated deposit liabilities since end of 1994. Banks may choose which currency they will use to meet the requirement on foreign-denominated deposits. Reserve balances are averaged over a two-week period.	Overdraft facility: credit provided at a penal rate (30 basis points above the refinance rate). Directed credit: abolished in early 1995.	Instruments Credit auction: from January 1996 only collateralized credit auctions will remain. Treasury or central bank bills and Ministry of Finance promissory notes are accepted as collateral (privatization vouchers are not accepted as their price is not stable). Operating Procedures Collateralized credit auction: uniform price auction with minimum price to 3 prevent banks from pushing down bids. Held twice a week, with 28 days maturity mostly. Credit obtained through auction can be rolled over only three times before it must be repaid.	Limits on cash withdrawals (fees) imposed in March 1994 to halt the high inflation rate; phased out in 1995. Central bank’s foreign exchange operations: interventions mainly (80%) at the auction. In some months of 1995, the central bank used foreign currency sales as its main domestic monetary policy instrument.
Azerbaijan	Uniform ratio of 15% for domestic and foreign currency deposits; banks may choose whether to bold foreign currency reserves in foreign or domestic currency; most banks choose foreign currency; lower requirement on interbank deposits, 5%; calculated on the basis of daily average deposit balances; no averaging of reserve holdings; unremunerated.	Overdraft facility: in late 1994, all automatic overdraft facilities were abolished. Refinance facility: credit provided to state-owned commercial banks not allowed to participate in the auction.	Instruments (Interbank) credit auction: open outcry method used; auctions conducted at Baku Interbank Currency Exchange (BICEX); only banks that meet prudential regulations are allowed to participate; the two largest banks are normally excluded from the auction; during March-December 1995, about 25% of total refinance credits were allocated through the auction. Operating Procedures (Interbank) credit auction: the supply of credit is adjusted dynamically as the auction proceeds, but amounts sold are usually consistent with central bank’s credit policies; in principle, held monthly with maturities varying from 3 to 180 days, although, in practice, auctions have been held less frequently.	Foreign exchange sales at the BICEX also used as a monetary instrument.
Belarus	Uniform ratio of 12% apply to domestic and foreign-currency-denominated banks’ deposit, all in domestic currency since September 1995. No averaging of reserves.	Directed credit: outstanding volumes are still significant. National bank refinance rate applies. Overdraft facility: penalty rate of 3 times the refinance rate (for overdrafts maintained between 4 and 7 days). National bank can suspend operations on the correspondent account of banks failing to repay within 2 days. No penalty when overdrafts occurred for reasons beyond the control of the bank.	Instruments Credit auction: resumed in August 1994 after having been suspended in December 1993. National bank bills auction: The national bank auctions its bills since June 1995. Secondary market for treasury bills: The national bank has purchased and sold treasury bills in growing amounts. Operating Procedures Credit auctions: The national bank conducts auctions when needed. Banks trade credit in the interbank market on a daily basis.	The national bank’s foreign exchange operations not regularly used as monetary instrument. Foreign exchange swaps have, however, been recently employed in minor extent to regulate liquidity of the banking sector.
Estonia	Uniform reserve ratio of 10% including foreign currency deposits (excludes demand deposits of Savings Bank that are subject to a higher requirement); eligible assets include deposits at the Bank of Estonia and up to 50% of vault cash; reserves on foreign currency deposits are to be maintained in domestic currency; 4-week maintenance period; reserves are based on the average of deposit liabilities on the 10th, 20th, and end of the preceding month; no averaging of reserve holdings; a penalty rate of 50% a year on the deficiency is levied, if the deficiency drops below 90% of required reserves or if any deficiency remains for more than 3 days, the bank is excluded from the clearing system.	Extension of central bank credit to commercial banks is limited to the amount of foreign exchange reserves in excess of those needed to provide full backing of base money. In this context, the Bank of Estonia has provided emergency credit to commercial banks.	Instrument Bank of Estonia certificate of deposit (CD): biweekly auctions; sealed bids; Interest Rate Commission sets upper and lower bounds on the interest rate; it also decides on the volume to be auctioned. Secondary market for CDs: electronic trading; the Bank of Estonia functions as the depository; CDs can only be traded in the banks book-entry system; settlement is the same day; the bank stands ready to buy back CDs or enter into repurchase agreements with banks, rates are set above market levels.
Georgia	Uniform reserve ratio of 18% (ratio lowered from 20% in January 1996); overall compliance rate increased from 50% in September 1994 to 83% in June 1995; foreign currency reserves must be held in domestic currency.	Overdraft facility from September 1994, banks’ automatic access to overdrafts was eliminated. Directed credit has been eliminated and the volume of refinance credit has been reduced.	Instruments (Interbank) credit auction: open outcry method used; the national bank can exclude banks not in compliance with prudential regulations; up to 75% of a bank’s reserve requirement may be used to collateralize borrowing at the auction; the scale of operations while small is increasing. Issues of treasury or central bank bills are planned. Operating Procedures (Interbank) credit auction: multiple maturities; the national bank intervention aimed mainly at fostering the development of the interbank market rather than attaining monetary policy objectives, but the national bank has borrowed in the market to manage liquidity.	Since December 1994, the national bank uses foreign exchange operations to moderate the monetary impact of its lending to the government.
Kazakstan	Uniform ratio of 20% on domestic and foreign exchange deposits since February 1995. The portion due on foreign currency deposits may be held in foreign currency. Reserve holdings are averaged. Remuneration on required reserves was lowered from 50% to 25% of the national bank refinance rate.	Lombard facility: introduced in September 1995 with treasury bills as collateral. The interest rate is pre-announced and set within a lower bound of 1.2 times the refinance rate and an upper bound of the maximum interest bid in the regular national bank credit auction for 3 months’ credit. Maturity of the loan in a 7–28 day range. Monthly global limits. Credit available three days after application is presented to the national bank.	Instruments Centralized credit auction: Mostly fixed assets of banks and treasury bills are used as collateral. Regional credit auctions introduced in June 1994, phased out in 1995. National bank securities: temporarily introduced in June-August 1995 with maturities of 7–14 days to sterilize foreign exchange inflows. No monetary management through primary market for treasury bills. Secondary market for treasury bills: Occasionally, the national bank has purchased and sold treasury bills in small amounts. Operating Procedures Credit auction: multiple-price system with minimum price announced by the national bank (refinance rate minus 5 points). As of January 1995, the national bank does not offer 6-month credits; maturity now varies between 1 and 3 months.	The national bank’s foreign exchange operations have on occasion been used as monetary instruments.
Kyrgyz Republic	Uniform ratio of 15% since October 1994 apply to banks’ domestic and foreign-currency-denominated deposit liabilities. Requirement held in domestic currency including cash in vault (since March 1995). Requirement based on the monthly average of banks’ deposits with monthly maintenance period on average. Remuneration is served based on the credit auction rate. Penalties apply in case of noncompliance.	Lombard facility redesigned in mid-1994: collateral requirement lowered from 100% to 50%. Maturity of credit: 1 to 14 days. Interest rates: 5 to 12 percentage points above credit auction rate based on collateral. Usage has been steady, albeit—due mainly to lack of collateral—only by a limited number of banks. Emergency credit facility for problem banks introduced in November 1994. The national bank board decides on each credit granted or prolonged. Maturity does not exceed 6 months but can be rolled over. Initially, interest rate was well above credit auction rate; the national bank recently charged 80% of credit auction rate. Banks are excluded from bidding in credit auction, lose remuneration on required reserve, and are placed under increased surveillance.	Instruments Credit auctions: on April 1995, required collateral (treasury bills or foreign exchange) lower from 70% to 50% of amount borrowed. Because of limited participation interest rate is not representative. Primary market for treasury bills: until late 1994, treasury bills served purely for monetary purposes. Now auction volume and timing is determined by the Ministry of Finance based on recommendations by the national bank. Secondary market for treasury bills: not used by the national bank for liquidity management. Operating Procedures Credit auctions: since July 1994, multiple-rate auction and no longer minimum interest rate. Weekly auctions of 3-month credit.	The national bank’s foreign exchange operations: weekly auctions of foreign exchange by the national bank to ensure transparent injection of foreign aid. Partly used as a monetary instrument.
Latvia	Since July 1993, a uniform reserve ratio of 8% applies to banks’ domestic- and foreign-currency-denominated deposit liabilities of the preceding month, measured as of balances on the 7th, 15th and 31st of the month. Since September 1994, banks have been allowed to hold a maximum of 50% of their required reserves in vault cash. The remainder is held in noninterest-earning deposits with averaging of reserves. All reserves are held in domestic currency. In case of noncompliance, banks pay a penalty rate of 2.5 times the refinancing rate.	Lombard facility (interest rate 5 percentage points above refinance rate), for which treasury bills are required as collateral. Can be drawn not more than 7 days consecutively and not more than 14 days in total during a month. Notification to draw this facility has to be made before noon at the latest on the day of the drawing. Automatic overdraft facility introduced in 1995 to help banks cover end-of-day clearing imbalances, for which treasury bills are required as collateral. Credit is extended on an overnight basis. Automatic deposit facility introduced in 1995. Banks can make 1 -month deposit at the Bank of Latvia at a fixed rate. Extraordinary financing facility for banks in serious difficulties introduced in 1995. Bank of Latvia board decides which banks are to be assisted, amounts to be provided, collateral to be accepted (treasury bills and/or privatization vouchers), and interest to be charged (with refinance rate as minimum).	Instruments Repo auctions in October 1995, replaced uncollateralized credit auctions. Treasury bills secondary window established in April 1994. Operating Procedures Repo auction: multiple price auction; since December 1995, conducted daily; also, maturity reduced from 1 month to 1 or 2 weeks. Treasury bills secondary window: Bank of Latvia’s quotes bid/offer prices daily based on result of previous auction. Ceiling applies to the Bank’s purchases.	Bank of Latvia’s foreign exchange operations have been the main policy instrument over the last couple of years, with the objective of maintaining the exchange rate at its peg to the SDR.
Lithuania	Uniform reserve ratio of 10% applies to commercial banks’ domestic- and foreign-currency-denominated deposit liabilities of the preceding month. Reserves can only be met by deposits with the central bank with averaging of reserves for deposits in litas, but not for foreign currency. In case of noncompliance, banks pay a penalty rate of 1.5 times the previous month interbank rate applied to shortfalls of up to 20% of the required reserves; for shortfalls in excess of 20%, the fine is 2 times the interbank rate. In early 1996, penalties for not meeting reserve requirements were lifted temporarily due to the liquidity squeeze resulting from the banking crisis.	Extension of central bank credit to commercial banks is limited to the amount of foreign exchange reserves in excess of those needed to provide full backing of base money. So far, the Bank of Lithuania has refrained from providing credit to commercial banks.
Moldova	Uniform reserve ratio since December 1994; in late 1995, ratio lowered from 12% to 8%; applies to commercial banks’ domestic currency deposits; deposits are averaged over the reserve maintenance period; required reserves above 5% are remunerated; reserve account and correspondent account at the national bank are combined and banks meet the reserve requirement on average. Foreign currency deposits are also subject to an 8% reserve ratio, but this may be satisfied by holding deposits abroad.	Lombard facility: regulations approved November 1995; short-term central bank credit extended at the credit auction rate plus 45, 50, and 55 percentage points, in the first, second, and third months of a quarter, respectively; Lombard operations structured in the form of repurchase agreements because it gives the national bank clearer title to the collateral in the event of a bank default.	Instruments Credit auctions: about 90% of central bank credit to banks is auctioned; banks must meet prudential norms. Will soon be fully collateralized as required by law. Open market operations: plans to start them in the spring of 1996, will replace credit auctions over the next year or two. Operating Procedure Credit auctions: single price auctions; no minimum rate. Held monthly with maturity varying from 3 to 6 months.
Russia	Differentiated by type of deposits and currency; since May 1, 1996, 18% on domestic currency demand deposits; 14% on domestic currency 1 to 3-month term deposits; 10% on term deposits of more than 3 months; 1.25% on foreign currency term deposits (held in domestic currency); averaging of the base; no averaging of reserve holdings. The Sberbank is subject to a marginal reserve requirement of 20% for ruble demand and time deposits of less than 30-day maturity, 15% on ruble time deposits over 30 days maturity, and no reserve requirements on foreign currency deposits. The effective rate is much lower than the statutory rate; as of February 1996, compliance was only at 66%. The central bank plans to allow averaging of reserve holdings.	Directed credit: the central bank is no longer providing direct credit through nonmarket means. Overdraft facility: credit provided at a penal rate (1.3 times the refinance rate). The central bank has not been extending overdrafts regularly; however, lax enforcement of reserve requirements means that some banks have access to overdrafts at no cost. Refinance window: not actively used in 1995. Lombard facility: the central bank has recently started a Lombard facility.	Instruments Credit auctions: held since February 1994, but participation in the auction has dried up since March 1995. Collateral is required (100%); hard currency deposits and balances in correspondent accounts at the central bank are accepted; access is restricted to banks meeting the 8% risk-weighted capital-asset ratio. Deposit auction: introduced in 1995, outstanding volume at the end of 1995 was about 1 % of reserve money. Used actively in early 1996. Primary market for treasury bills: the central bank manages auctions of treasury bills. Secondary market for treasury bills: the central bank actively intervenes buying and selling treasury bills to manage the yield; since second half of 1995, interventions have been used more and more to manage liquidity. Operating Procedures Credit auctions: multiple-price auction method is used with a floor price equal to the central bank’s refinance rate. Monthly auctions of 3-month credit. Primary market for treasury bills: not used for monetary management. Secondary market for treasury bills: the central bank purchases treasury bills from the screen-based secondary market at the Moscow Interbank Currency Exchange (MICEX).	Foreign exchange operations: purchases used to provide liquidity to the market.
Tajikistan	Uniform ratio of 18% on deposits, based on deposits at end of month and constituted with a 1-month lag. Reserves are not remunerated. Penalty for noncompliance (2% of the deficit) not regularly applied. Project to move to a uniform ratio, to increase to 5% penalty for noncompliance and to include foreign-denominated deposits in the base.	Directed credit: the national bank operates a standing refinance window. Maturity of refinance credit (varies according of type of project) as long as two years. The national bank charges the refinance rate. Penalty for overdue loans is five times the refinance rate.	Instruments No market-based monetary instrument	Limits on cash withdrawals for household phased out in July 1995 and reintroduced in August 1995 because of fear of inflationary implications of credit expansion. Bank-by-bank credit ceilings: main monetary instrument. The national bank’s foreign exchange operations have been used for short-term liquidity management over the last few months.
Turkmenistan	Since January 1996, uniform reserve ratio of 11% on all deposit liabilities including foreign currency deposits; biweekly maintenance period; reserves must be held at the central bank; penalty rate of 0.2% daily.	Central bank credit: in 1995, the central bank provided refinance credit to commercial banks at the refinance rate and directed credit to public sector enterprises at zero interest rates. In addition, an interest-free, central bank credit facility has been extended for agriculture. Overdraft facility: the central bank provides automatic overdrafts to commercial banks, these loans are usually consolidated with refinance loans.	Instruments (Interbank) credit auction: the central bank may exclude banks not complying with prudential regulations; uncollateralized; the scale of operations is small with the Savings Bank supplying virtually all funds. Credit auction: in February 1996, the central bank auctioned manat 1 billion (6% of outstanding credit to banks) at an annual interest rate of 82.9%. Auctions have since discontinued.
Ukraine	Since January 1, 1996, uniform ratio of 15% on domestic and foreign-currency deposit liabilities. Requirement held in domestic currency, based on contemporaneous reserve accounting averaged, and over each 10-day period. Penalty rate of twice the refinance rate in case of shortfalls.	Lombard facility introduced in December 1995 provides fixed-term 30-day advances against collateral—government and municipal securities. Interest rate above the refinance rate or the current rate for the securities. No quotas, but access limited to banks with no outstanding debt to the NBU and complying with NBU regulations.	Instruments Target credit auction providing funds for directed credit were widely used in 1995. General credit auction (only 6 in 1995) have been superseded by target credit auctions. No collateral required. Operating Procedures Target credit auction: minimum interest rates apply (refinance rate). General credit auction: multiple price auction with minimum interest rate (refinance rate).	National bank’s foreign exchange operations: mainly conducted on the exchange market; interventions in the interbank market have just started. Not a monetary instrument.
Uzbekistan	Uniform reserve ratio of 30% (the reserve requirement was doubled, from 15% to 30% in May 1994, to absorb excess liquidity in preparation for the issuance of the national currency); unremunerated; no averaging.	Directed credit: the central bank has not extended credit to banks at posted rates since the second quarter of 1995.	Instruments (Interbank) credit auction: open outcry method used; banks must comply with prudential regulations and norms to participate; uncollateralized; the scale of operations is growing, with the central bank providing most of the funds. Certificate of deposit auctions: sealed bids, the central bank decides cut-off rate and volumes. Secondary market for CDs: the central bank stands ready to repurchase its CDs after they have run for at least two weeks, at a rate determined case by case. Primary market for treasury bills Operating Procedures (Interbank) credit auction: the central bank has borrowed in the market to manage liquidity. Daily auctions. Primary market for treasury bills not used for monetary management.	Foreign exchange purchases used to provide liquidity to the market.

View Table

Table 11.

Instruments and Operating Arrangements

	Reserve Requirements	Standing and Nonmarket-Based Discretionary Facilities	Market Operations	Other Instruments
Armenia	Uniform ratio of 15% for all dram- and foreign-denominated deposit liabilities since end of 1994. Banks may choose which currency they will use to meet the requirement on foreign-denominated deposits. Reserve balances are averaged over a two-week period.	Overdraft facility: credit provided at a penal rate (30 basis points above the refinance rate). Directed credit: abolished in early 1995.	Instruments Credit auction: from January 1996 only collateralized credit auctions will remain. Treasury or central bank bills and Ministry of Finance promissory notes are accepted as collateral (privatization vouchers are not accepted as their price is not stable). Operating Procedures Collateralized credit auction: uniform price auction with minimum price to 3 prevent banks from pushing down bids. Held twice a week, with 28 days maturity mostly. Credit obtained through auction can be rolled over only three times before it must be repaid.	Limits on cash withdrawals (fees) imposed in March 1994 to halt the high inflation rate; phased out in 1995. Central bank’s foreign exchange operations: interventions mainly (80%) at the auction. In some months of 1995, the central bank used foreign currency sales as its main domestic monetary policy instrument.
Azerbaijan	Uniform ratio of 15% for domestic and foreign currency deposits; banks may choose whether to bold foreign currency reserves in foreign or domestic currency; most banks choose foreign currency; lower requirement on interbank deposits, 5%; calculated on the basis of daily average deposit balances; no averaging of reserve holdings; unremunerated.	Overdraft facility: in late 1994, all automatic overdraft facilities were abolished. Refinance facility: credit provided to state-owned commercial banks not allowed to participate in the auction.	Instruments (Interbank) credit auction: open outcry method used; auctions conducted at Baku Interbank Currency Exchange (BICEX); only banks that meet prudential regulations are allowed to participate; the two largest banks are normally excluded from the auction; during March-December 1995, about 25% of total refinance credits were allocated through the auction. Operating Procedures (Interbank) credit auction: the supply of credit is adjusted dynamically as the auction proceeds, but amounts sold are usually consistent with central bank’s credit policies; in principle, held monthly with maturities varying from 3 to 180 days, although, in practice, auctions have been held less frequently.	Foreign exchange sales at the BICEX also used as a monetary instrument.
Belarus	Uniform ratio of 12% apply to domestic and foreign-currency-denominated banks’ deposit, all in domestic currency since September 1995. No averaging of reserves.	Directed credit: outstanding volumes are still significant. National bank refinance rate applies. Overdraft facility: penalty rate of 3 times the refinance rate (for overdrafts maintained between 4 and 7 days). National bank can suspend operations on the correspondent account of banks failing to repay within 2 days. No penalty when overdrafts occurred for reasons beyond the control of the bank.	Instruments Credit auction: resumed in August 1994 after having been suspended in December 1993. National bank bills auction: The national bank auctions its bills since June 1995. Secondary market for treasury bills: The national bank has purchased and sold treasury bills in growing amounts. Operating Procedures Credit auctions: The national bank conducts auctions when needed. Banks trade credit in the interbank market on a daily basis.	The national bank’s foreign exchange operations not regularly used as monetary instrument. Foreign exchange swaps have, however, been recently employed in minor extent to regulate liquidity of the banking sector.
Estonia	Uniform reserve ratio of 10% including foreign currency deposits (excludes demand deposits of Savings Bank that are subject to a higher requirement); eligible assets include deposits at the Bank of Estonia and up to 50% of vault cash; reserves on foreign currency deposits are to be maintained in domestic currency; 4-week maintenance period; reserves are based on the average of deposit liabilities on the 10th, 20th, and end of the preceding month; no averaging of reserve holdings; a penalty rate of 50% a year on the deficiency is levied, if the deficiency drops below 90% of required reserves or if any deficiency remains for more than 3 days, the bank is excluded from the clearing system.	Extension of central bank credit to commercial banks is limited to the amount of foreign exchange reserves in excess of those needed to provide full backing of base money. In this context, the Bank of Estonia has provided emergency credit to commercial banks.	Instrument Bank of Estonia certificate of deposit (CD): biweekly auctions; sealed bids; Interest Rate Commission sets upper and lower bounds on the interest rate; it also decides on the volume to be auctioned. Secondary market for CDs: electronic trading; the Bank of Estonia functions as the depository; CDs can only be traded in the banks book-entry system; settlement is the same day; the bank stands ready to buy back CDs or enter into repurchase agreements with banks, rates are set above market levels.
Georgia	Uniform reserve ratio of 18% (ratio lowered from 20% in January 1996); overall compliance rate increased from 50% in September 1994 to 83% in June 1995; foreign currency reserves must be held in domestic currency.	Overdraft facility from September 1994, banks’ automatic access to overdrafts was eliminated. Directed credit has been eliminated and the volume of refinance credit has been reduced.	Instruments (Interbank) credit auction: open outcry method used; the national bank can exclude banks not in compliance with prudential regulations; up to 75% of a bank’s reserve requirement may be used to collateralize borrowing at the auction; the scale of operations while small is increasing. Issues of treasury or central bank bills are planned. Operating Procedures (Interbank) credit auction: multiple maturities; the national bank intervention aimed mainly at fostering the development of the interbank market rather than attaining monetary policy objectives, but the national bank has borrowed in the market to manage liquidity.	Since December 1994, the national bank uses foreign exchange operations to moderate the monetary impact of its lending to the government.
Kazakstan	Uniform ratio of 20% on domestic and foreign exchange deposits since February 1995. The portion due on foreign currency deposits may be held in foreign currency. Reserve holdings are averaged. Remuneration on required reserves was lowered from 50% to 25% of the national bank refinance rate.	Lombard facility: introduced in September 1995 with treasury bills as collateral. The interest rate is pre-announced and set within a lower bound of 1.2 times the refinance rate and an upper bound of the maximum interest bid in the regular national bank credit auction for 3 months’ credit. Maturity of the loan in a 7–28 day range. Monthly global limits. Credit available three days after application is presented to the national bank.	Instruments Centralized credit auction: Mostly fixed assets of banks and treasury bills are used as collateral. Regional credit auctions introduced in June 1994, phased out in 1995. National bank securities: temporarily introduced in June-August 1995 with maturities of 7–14 days to sterilize foreign exchange inflows. No monetary management through primary market for treasury bills. Secondary market for treasury bills: Occasionally, the national bank has purchased and sold treasury bills in small amounts. Operating Procedures Credit auction: multiple-price system with minimum price announced by the national bank (refinance rate minus 5 points). As of January 1995, the national bank does not offer 6-month credits; maturity now varies between 1 and 3 months.	The national bank’s foreign exchange operations have on occasion been used as monetary instruments.
Kyrgyz Republic	Uniform ratio of 15% since October 1994 apply to banks’ domestic and foreign-currency-denominated deposit liabilities. Requirement held in domestic currency including cash in vault (since March 1995). Requirement based on the monthly average of banks’ deposits with monthly maintenance period on average. Remuneration is served based on the credit auction rate. Penalties apply in case of noncompliance.	Lombard facility redesigned in mid-1994: collateral requirement lowered from 100% to 50%. Maturity of credit: 1 to 14 days. Interest rates: 5 to 12 percentage points above credit auction rate based on collateral. Usage has been steady, albeit—due mainly to lack of collateral—only by a limited number of banks. Emergency credit facility for problem banks introduced in November 1994. The national bank board decides on each credit granted or prolonged. Maturity does not exceed 6 months but can be rolled over. Initially, interest rate was well above credit auction rate; the national bank recently charged 80% of credit auction rate. Banks are excluded from bidding in credit auction, lose remuneration on required reserve, and are placed under increased surveillance.	Instruments Credit auctions: on April 1995, required collateral (treasury bills or foreign exchange) lower from 70% to 50% of amount borrowed. Because of limited participation interest rate is not representative. Primary market for treasury bills: until late 1994, treasury bills served purely for monetary purposes. Now auction volume and timing is determined by the Ministry of Finance based on recommendations by the national bank. Secondary market for treasury bills: not used by the national bank for liquidity management. Operating Procedures Credit auctions: since July 1994, multiple-rate auction and no longer minimum interest rate. Weekly auctions of 3-month credit.	The national bank’s foreign exchange operations: weekly auctions of foreign exchange by the national bank to ensure transparent injection of foreign aid. Partly used as a monetary instrument.
Latvia	Since July 1993, a uniform reserve ratio of 8% applies to banks’ domestic- and foreign-currency-denominated deposit liabilities of the preceding month, measured as of balances on the 7th, 15th and 31st of the month. Since September 1994, banks have been allowed to hold a maximum of 50% of their required reserves in vault cash. The remainder is held in noninterest-earning deposits with averaging of reserves. All reserves are held in domestic currency. In case of noncompliance, banks pay a penalty rate of 2.5 times the refinancing rate.	Lombard facility (interest rate 5 percentage points above refinance rate), for which treasury bills are required as collateral. Can be drawn not more than 7 days consecutively and not more than 14 days in total during a month. Notification to draw this facility has to be made before noon at the latest on the day of the drawing. Automatic overdraft facility introduced in 1995 to help banks cover end-of-day clearing imbalances, for which treasury bills are required as collateral. Credit is extended on an overnight basis. Automatic deposit facility introduced in 1995. Banks can make 1 -month deposit at the Bank of Latvia at a fixed rate. Extraordinary financing facility for banks in serious difficulties introduced in 1995. Bank of Latvia board decides which banks are to be assisted, amounts to be provided, collateral to be accepted (treasury bills and/or privatization vouchers), and interest to be charged (with refinance rate as minimum).	Instruments Repo auctions in October 1995, replaced uncollateralized credit auctions. Treasury bills secondary window established in April 1994. Operating Procedures Repo auction: multiple price auction; since December 1995, conducted daily; also, maturity reduced from 1 month to 1 or 2 weeks. Treasury bills secondary window: Bank of Latvia’s quotes bid/offer prices daily based on result of previous auction. Ceiling applies to the Bank’s purchases.	Bank of Latvia’s foreign exchange operations have been the main policy instrument over the last couple of years, with the objective of maintaining the exchange rate at its peg to the SDR.
Lithuania	Uniform reserve ratio of 10% applies to commercial banks’ domestic- and foreign-currency-denominated deposit liabilities of the preceding month. Reserves can only be met by deposits with the central bank with averaging of reserves for deposits in litas, but not for foreign currency. In case of noncompliance, banks pay a penalty rate of 1.5 times the previous month interbank rate applied to shortfalls of up to 20% of the required reserves; for shortfalls in excess of 20%, the fine is 2 times the interbank rate. In early 1996, penalties for not meeting reserve requirements were lifted temporarily due to the liquidity squeeze resulting from the banking crisis.	Extension of central bank credit to commercial banks is limited to the amount of foreign exchange reserves in excess of those needed to provide full backing of base money. So far, the Bank of Lithuania has refrained from providing credit to commercial banks.
Moldova	Uniform reserve ratio since December 1994; in late 1995, ratio lowered from 12% to 8%; applies to commercial banks’ domestic currency deposits; deposits are averaged over the reserve maintenance period; required reserves above 5% are remunerated; reserve account and correspondent account at the national bank are combined and banks meet the reserve requirement on average. Foreign currency deposits are also subject to an 8% reserve ratio, but this may be satisfied by holding deposits abroad.	Lombard facility: regulations approved November 1995; short-term central bank credit extended at the credit auction rate plus 45, 50, and 55 percentage points, in the first, second, and third months of a quarter, respectively; Lombard operations structured in the form of repurchase agreements because it gives the national bank clearer title to the collateral in the event of a bank default.	Instruments Credit auctions: about 90% of central bank credit to banks is auctioned; banks must meet prudential norms. Will soon be fully collateralized as required by law. Open market operations: plans to start them in the spring of 1996, will replace credit auctions over the next year or two. Operating Procedure Credit auctions: single price auctions; no minimum rate. Held monthly with maturity varying from 3 to 6 months.
Russia	Differentiated by type of deposits and currency; since May 1, 1996, 18% on domestic currency demand deposits; 14% on domestic currency 1 to 3-month term deposits; 10% on term deposits of more than 3 months; 1.25% on foreign currency term deposits (held in domestic currency); averaging of the base; no averaging of reserve holdings. The Sberbank is subject to a marginal reserve requirement of 20% for ruble demand and time deposits of less than 30-day maturity, 15% on ruble time deposits over 30 days maturity, and no reserve requirements on foreign currency deposits. The effective rate is much lower than the statutory rate; as of February 1996, compliance was only at 66%. The central bank plans to allow averaging of reserve holdings.	Directed credit: the central bank is no longer providing direct credit through nonmarket means. Overdraft facility: credit provided at a penal rate (1.3 times the refinance rate). The central bank has not been extending overdrafts regularly; however, lax enforcement of reserve requirements means that some banks have access to overdrafts at no cost. Refinance window: not actively used in 1995. Lombard facility: the central bank has recently started a Lombard facility.	Instruments Credit auctions: held since February 1994, but participation in the auction has dried up since March 1995. Collateral is required (100%); hard currency deposits and balances in correspondent accounts at the central bank are accepted; access is restricted to banks meeting the 8% risk-weighted capital-asset ratio. Deposit auction: introduced in 1995, outstanding volume at the end of 1995 was about 1 % of reserve money. Used actively in early 1996. Primary market for treasury bills: the central bank manages auctions of treasury bills. Secondary market for treasury bills: the central bank actively intervenes buying and selling treasury bills to manage the yield; since second half of 1995, interventions have been used more and more to manage liquidity. Operating Procedures Credit auctions: multiple-price auction method is used with a floor price equal to the central bank’s refinance rate. Monthly auctions of 3-month credit. Primary market for treasury bills: not used for monetary management. Secondary market for treasury bills: the central bank purchases treasury bills from the screen-based secondary market at the Moscow Interbank Currency Exchange (MICEX).	Foreign exchange operations: purchases used to provide liquidity to the market.
Tajikistan	Uniform ratio of 18% on deposits, based on deposits at end of month and constituted with a 1-month lag. Reserves are not remunerated. Penalty for noncompliance (2% of the deficit) not regularly applied. Project to move to a uniform ratio, to increase to 5% penalty for noncompliance and to include foreign-denominated deposits in the base.	Directed credit: the national bank operates a standing refinance window. Maturity of refinance credit (varies according of type of project) as long as two years. The national bank charges the refinance rate. Penalty for overdue loans is five times the refinance rate.	Instruments No market-based monetary instrument	Limits on cash withdrawals for household phased out in July 1995 and reintroduced in August 1995 because of fear of inflationary implications of credit expansion. Bank-by-bank credit ceilings: main monetary instrument. The national bank’s foreign exchange operations have been used for short-term liquidity management over the last few months.
Turkmenistan	Since January 1996, uniform reserve ratio of 11% on all deposit liabilities including foreign currency deposits; biweekly maintenance period; reserves must be held at the central bank; penalty rate of 0.2% daily.	Central bank credit: in 1995, the central bank provided refinance credit to commercial banks at the refinance rate and directed credit to public sector enterprises at zero interest rates. In addition, an interest-free, central bank credit facility has been extended for agriculture. Overdraft facility: the central bank provides automatic overdrafts to commercial banks, these loans are usually consolidated with refinance loans.	Instruments (Interbank) credit auction: the central bank may exclude banks not complying with prudential regulations; uncollateralized; the scale of operations is small with the Savings Bank supplying virtually all funds. Credit auction: in February 1996, the central bank auctioned manat 1 billion (6% of outstanding credit to banks) at an annual interest rate of 82.9%. Auctions have since discontinued.
Ukraine	Since January 1, 1996, uniform ratio of 15% on domestic and foreign-currency deposit liabilities. Requirement held in domestic currency, based on contemporaneous reserve accounting averaged, and over each 10-day period. Penalty rate of twice the refinance rate in case of shortfalls.	Lombard facility introduced in December 1995 provides fixed-term 30-day advances against collateral—government and municipal securities. Interest rate above the refinance rate or the current rate for the securities. No quotas, but access limited to banks with no outstanding debt to the NBU and complying with NBU regulations.	Instruments Target credit auction providing funds for directed credit were widely used in 1995. General credit auction (only 6 in 1995) have been superseded by target credit auctions. No collateral required. Operating Procedures Target credit auction: minimum interest rates apply (refinance rate). General credit auction: multiple price auction with minimum interest rate (refinance rate).	National bank’s foreign exchange operations: mainly conducted on the exchange market; interventions in the interbank market have just started. Not a monetary instrument.
Uzbekistan	Uniform reserve ratio of 30% (the reserve requirement was doubled, from 15% to 30% in May 1994, to absorb excess liquidity in preparation for the issuance of the national currency); unremunerated; no averaging.	Directed credit: the central bank has not extended credit to banks at posted rates since the second quarter of 1995.	Instruments (Interbank) credit auction: open outcry method used; banks must comply with prudential regulations and norms to participate; uncollateralized; the scale of operations is growing, with the central bank providing most of the funds. Certificate of deposit auctions: sealed bids, the central bank decides cut-off rate and volumes. Secondary market for CDs: the central bank stands ready to repurchase its CDs after they have run for at least two weeks, at a rate determined case by case. Primary market for treasury bills Operating Procedures (Interbank) credit auction: the central bank has borrowed in the market to manage liquidity. Daily auctions. Primary market for treasury bills not used for monetary management.	Foreign exchange purchases used to provide liquidity to the market.

Most countries are phasing out directed credits; more generally, in a number of countries central bank credit to commercial banks actually declined in 1995 (Figure 3). Nevertheless, most central banks have overdraft facilities providing short-term uncollateralized credit at a penalty rate. Some central banks have established or are in the process of establishing other standing facilities such as a Lombard facility to reduce the central bank’s credit risk. Lending through this facility is at a penalty rate, has short maturity, and is usually collateralized with treasury bills. A few countries such as Latvia and the Kyrgyz Republic have emergency lending facilities designed to provide credit to problem banks. In Latvia, the central bank provided limited credit to banks with financial difficulties in the spring of 1995, and in the Kyrgyz Republic, the central bank provides medium-term funding to troubled banks suffering from a liquidity shortage.

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Monetary Indicators-Changes in Sources of Reserve Money¹

(In percent of December 1995 reserve money)

Sources: Country authorities; and IMF staff estimates.¹ Based on changes during December 1994–95, except for Armenia, Georgia, Kazakstan, Uzbekistan, which are based on the period September 1994–95, and Tajikistan on June-December 1995. Foreign exchange valued at end of period exchange rates.

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Although central bank credit auctions exist in all countries except Tajikistan and countries with a currency board (Estonia, Lithuania), they are actively used in only a few countries. Countries that distribute a substantial portion of refinance credit to banks through credit auctions include Armenia, Moldova, and Ukraine, and more recently Belarus and Uzbekistan.¹⁴ In some countries, there has been a trend toward increasing the frequency of credit auctions (Armenia, Latvia, Uzbekistan) and toward reducing the maturity of auctioned credit (Armenia, Latvia, Kazakstan).

Use of collateral for central bank operations has been increasing but is hampered by the low volume of acceptable collateral, as well as by inadequate legislation, which, in some countries (such as Russia), still allows the pledger to remain in possession of the collateral until the loan is in default. Some countries are gradually transforming credit auctions into auctions for repurchase agreement, which solves the collateral problem. For example, in Moldova, Lombard operations are structured in the form of repurchase operations to give the central bank a clear title to the security in the event of default. The trend is more noticeable in countries where programs of treasury bill auctions have been in place and banks are building a stock of riskless collateral (Armenia, Latvia). In addition to treasury bills, central banks also have accepted hard currency deposits (Russia, the Kyrgyz Republic) and fixed assets of commercial banks (Kazakstan) as collateral.

Regarding the primary market for government securities, there have been steady increases in the share of treasury bills to finance the government deficit, but the use of treasury bills for short-term management of bank liquidity has been limited in most countries. For instance, in Russia, about 40 percent of the 1996 government deficit, and in Lithuania, a large part, is expected to be financed with government securities. The Kyrgyz Republic until late 1994 used treasury bills purely as a monetary policy instrument, but more recently, this instrument has been used mainly to finance the government deficit. The Bank of Estonia has issued certificates of deposit, but for money market development purposes rather than for monetary control, which is governed by currency board arrangements. As a ratio to GDP, however, outstanding federal government domestic securities is very low compared with those countries of the Organization for Economic Cooperation and Development (OECD).

Most countries are now auctioning treasury bills, but increases in central bank credit to the government are still an important source of reserve money (Figure 3). In all countries except Russia, outstanding volumes of treasury bills are still small. In primary issues, the central bank usually acts as the government agent with the ministry of finance deciding on the timing, volumes, and cut-off price. Given that primary issues of treasury bills are being used primarily for public debt management purposes, central banks temporarily in need of a monetary instrument to absorb liquidity have issued central bank securities (Belarus, Kazakstan, Uzbekistan) or have offered central bank deposits (Latvia, Russia). In most cases, central bank deposits or securities are issued for short maturities of up to one month.

In an effort to develop secondary markets by promoting liquidity, some central banks have started transactions in the secondary market for government securities (Belarus, Kazakstan, Latvia, Russia). In Latvia, the central bank operates a secondary market window for treasury bills; in Belarus, Kazakstan, Latvia, and Russia, the central bank has purchased or sold treasury bills in the secondary market. However, open market operations in the secondary market for government securities play only a limited role in liquidity management due to the lack of depth of secondary markets and, to some extent, to the lack of an institutional framework to conduct repurchase agreements. Moreover, in Russia, central bank interventions have often been directed at managing the yield rather than at influencing liquidity in the system; however, starting in the second half of 1995, more use has been made of those interventions to adjust liquidity. For example, during the interbank market crisis in August 1995, the Central Bank of Russia purchased treasury bills from a select number of banks to ease a shortage of liquidity.

Priorities for Reform

Much remains to be done to bring monetary operations in many of the transition countries to modern market standards.¹⁵ Given the structural and liquidity problems in the banking system, central banks in the transition countries need to design lender-of-last-resort facilities under well-defined rules of access and closely linked to the operations of the payments system and strengthen the coordination of different monetary instruments. In addition, central banks need to enhance the efficiency of existing monetary instruments by ensuring compliance with reserve requirements and by introducing reserve averaging,¹⁶ and generalizing the use and improving the quality of collateral in central bank operations. Further concomitant reforms in public debt management, government securities markets, and banking soundness and competitiveness are needed to ensure continued progress in market-based monetary management.

Regarding lender-of-last-resort facilities, further progress is needed toward establishing Lombard facilities, which are useful instruments to help banks cope with unexpected end-of-day clearing imbalances that can be caused by weaknesses in payments system arrangements. Delays in transferring funds between banks or within a country, as well as delays in the availability of timely information on the banks’ balances at the central bank, make liquidity management difficult for both the central bank and commercial banks. However, instruments designed to inject liquidity on an emergency basis such as a Lombard window are inadequate to deal with longer-term banking weaknesses. Financial assistance to counter banking weaknesses should be designed as part of a comprehensive bank-restructuring strategy. While direct central bank credit may be necessary in some instances, it should be under government guarantee and replaced as soon as possible with government funds.

In the context of increased credit risks because of systemic banking weaknesses, the requirement for collateral to access central bank refinance facilities (including credit auctions) is crucial. As noted above, uncollateralized credit auctions should be transformed into repurchase auctions. Not only will this protect the central bank’s net worth assets, it will also enhance financial discipline in the system. Moreover, such reforms are necessary to encourage collateralization of interbank market transactions and stimulate markets for the underlying instrument (typically treasury bills, or government securities generally). These reforms are also urgent for containing settlement risks and market segmentation caused by the weaknesses in the banking system.

Adequate institutional arrangements need to be in place to ensure that sterilization costs are rapidly transferred to the budget. Using central bank securities or deposit auctions to sterilize capital inflows, for instance, raises concern about the cost of sterilization and its impact on the central bank’s balance sheets due to the generally high interest rates on short-term securities compared with interest income on the central bank’s assets. If the central bank’s profits are regularly transferred to the government, the budget would absorb the increased financial costs through forgone revenue. However, should this cause losses to the central bank, it could undermine monetary management. Alternatively, special arrangements with the ministry of finance could ensure that treasury bills are also issued for monetary purposes.

The development of secondary markets in government securities will enhance the efficiency and effectiveness of central bank operations in this market. Adjustments may be needed in certain elements of the market microstructure—including the trading arrangements, regulatory environment, and clearing and settlement procedures. In particular, an institutional framework to conduct repurchase agreements needs to be developed setting guidelines on these operations and providing the lender a perfected title to the security used as collateral.

Progress in enhancing the liquidity of the money market, and in particular of the interbank market, is critical to the development of market-based monetary instruments, open market operations, as well as refinance instruments. However, in a context of widespread unsoundness of banks and lack of collateral, further development of the interbank market is an arduous and stage-by-stage process. The central bank can play an active role not only from the general point of view of capital market development, but also by making the interbank market an appropriate locus to conduct monetary operations. As already noted, collateralization of monetary operations can help develop interbank markets by containing settlement risk and market segmentation. Also an efficient interbank settlement system and timely information on loro account balances held at the central bank will allow banks to trade their liquidity position on a daily basis, fostering the development of interbank markets.

There is also a need to better integrate monetary and foreign exchange policies and operations. In this regard, an important task is to develop a monitoring framework to guide the central bank in its day-to-day operations consistent with the annual monetary program. For example, a five-day reporting system in Russia and a daily projection of banks’ correspondent accounts in Belarus allow the central banks of these countries to monitor banks’ liquidity. Lately, however, the National Bank of Belarus has put more emphasis on targeting the exchange rate than in complying with net international reserve targets. In some countries, additional staffing to process the existing data may be required. At the institutional level, coordination with government institutions and within the central bank needs to be strengthened.

A comprehensive framework for public debt management is yet to emerge. The development of the government securities market faces major challenges: to extend the maturity profile of debt, to involve the household savings market, and to adjust trading arrangements. Regarding the first issue, countries such as Russia and Turkmenistan have attempted to extend the maturity profile of the debt by issuing indexed or floating rate instruments (Table 10). While this attempt was not successful in Turkmenistan, the results were more encouraging in Russia; as of March 29, 1996, outstanding volumes of floating rate instruments in Russia were about 1 percent of GDP.

Regarding household savings, the possibility of introducing household savings instruments has not been fully explored. However, this important source of noninflationary budget finance should not be ignored. Finally, to further develop secondary markets, a system of primary dealers could be introduced. Some transition countries have plans to establish over-the-counter dealer markets with specialized primary dealers that are required to provide continuous quotations in government securities (Kyrgyz Republic, Russia).¹⁷

Supporting structural reforms in banking, including bank supervision and bank restructuring, and in the payments area is needed to enhance the implementation of market-based monetary policy. Weaknesses in banks’ loan portfolios or management can make banks unresponsive to interest rate signals and lead to less liquid and segmented money markets because of a loss of confidence. This, in turn, can increase noncompliance with reserve requirements and frequent recourse to standing facilities (Lombard or discount window), weakening the effectiveness of market-based instruments. Also, a strict central bank policy stance is weakened if ailing banks receive large amounts of liquidity support from the central bank. Dealing with problem banks will make these banks more responsive to interest rate signals, will set the basis for the growth of the interbank market, and will improve the effectiveness of monetary control. Reforms in the payments area such as implementing a large-value transfer system for same-day or real-time settlements and the use of required reserves to provide intraday or intraweek liquidity, will facilitate banks’ liquidity management and market development.¹⁸