After years of complaints that its US dollar reference rate fails to reflect market reality, the Central Bank has announced a shift in how it determines the figure.
In an effort to narrow the gap between the bank’s rate and that of the wider market, the regulator has announced it will start basing its daily reference rate on transactions in the interbank market, rather than its own daily auctions.
The planned move would mark a significant shift in the Central Bank’s exchange rate regime, which has been in place since 2012. In April that year, the bank abandoned a currency peg system, which involved an artificial exchange rate of K6 to the dollar, and moved to a managed float.
Under this arrangement, the bank holds daily auctions where private lenders bid for US dollars, and uses the demand at those auctions to set a daily reference rate. Licensed money changers and commercial banks can only conduct their own exchange transactions in a narrow band 0.8pc above or below the reference rate.
But this system has led to an array of problems. Bankers and analysts have long pointed out that the exchange rate the Central Bank sets – and by extension the range provided for other licenced exchange providers – regularly fails to reflect the actual demand for US dollars in the economy. This prompts individuals and firms to either use the black market or transact between themselves. This saps the official financial sector of foreign currency, and exaggerates swings in the kyat-dollar exchange rate, say analysts.
International agencies like the IMF have been pushing the Central Bank to allow its rate to move more freely for years, but the gap between the official and unofficial rates remains an issue.
“The Central Bank reference rate is still different from the [market] rate,” said U Win Thaw, director general of the Central Bank’s Foreign Exchange Management Department.
Given the difference between the market and official rates, local banks have little incentive to buy from the Central Bank, making the auctions an increasingly poor gauge of dollar demand.
At the auctions held so far this week, on which the reference rate for the whole of Myanmar is based, sales have averaged less than $1000.
As a result of the persistent mismatch in rates, “the daily auction will be cancelled and [the reference rate] will be based on interbank market,” U Win Thaw told The Myanmar Times. “This [change] will be implemented soon. We can’t change this year because it’s almost over, but it will be implemented at the beginning of 2017.”
When the change happens the Central Bank will set the day’s reference rate based on interbank rates from the previous day. But the bank intends to start updating its rate more than once a day further down the line, U Win Thaw said.
If the Central Bank was to switch to the interbank market now, the reference rate would almost certainly be higher. The weighted exchange rate on the interbank market was K1394 yesterday – well above the Central Bank’s K1350 reference rate.
In terms of volume, $31.4 million was exchanged on the interbank market, compared to $1000 at the daily auction.
In addition to shifting to the interbank market, the Central Bank also plans to remove the restriction that keeps commercial banks and licensed money changers to within 0.8pc of the reference rate.
“That rule will be cancelled and they can operate freely,” said U Win Thaw. “Now there are gaps between the bank and market rates and nobody obeys [the rule].”
Banks have been lobbying for a wider trading band for months, but bankers and financial analysts warn there could be repercussions from abolishing the rule completely. Myanmar’s financial sector is at a “very early stage”, said U Than Lwin, a senior advisor at KBZ Bank and a former vice governor of the Central Bank. “If you set the market free under the current situation a lot of issues will influence the [exchange rate].”
A jump in speculative trading following an end to the 0.8pc band is a major risk, say bankers. Although U Win Thaw previously told The Myanmar Times that if the band was removed the Central Bank would also have to issue new regulations to prevent excess speculation.
The interbank market, meanwhile, is not a paragon of efficiency. The Central Bank is aware that if it is to rely on interbank activity, the market needs bolstering. “It needs to become more developed,” said U Win Thaw.
Several bankers have told The Myanmar Times that trust between lenders is weak, which has hampered the interbank market’s development. Private bankers have also accused their larger state-owned peers, which spent many years with a monopoly on foreign exchange services, of sitting on large piles of dollars and not participating in interbank exchange.
“It needs cooperation from all private banks and all state banks,” said U Than Lwin. “It can’t work with private banks alone.”
Central Bank officials declined to comment on how they would promote participation, but have said previously that they intend to make sure state-banks participate fully.
U Soe Thein, deputy managing director of Asia Green Development Bank, said a better-functioning interbank would be highly beneficial.
“The vital impact would be if the interbank market could reflect the ‘real’ exchange rate,” he said, and added that this to happen it was crucial the 0.8pc rule be dropped. “If not, exchange transactions will continue to happen outside the bank market,” he said.
In the meantime, the Central Bank will continue to use the daily auctions, although there are signs the bank is trying hard make sure its rate keeps up with the informal market. As of yesterday the reference rate was on for its biggest weekly move since the auctions began in 2012. The Central Bank’s reference rate was K1320 on December 12, and rose K10 a day to hit K1350 yesterday – the biggest jump across three consecutive days ever.
Translation by Win Thaw Tar, San Layy, Khine Thazin Han, Emoon and Zar Zar Soe