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Monetary Policy

The main objectives of macroeconomic policies, in general, and monetary policies, in particular, are price stability, economic growth and a favorable employment level. Since it is hard for policy makers to achieve the ultimate goal directly, therefore, determining intermediate objectives and introducing appropriate instruments are deemed necessary. In case of monetary policy, the issue of setting an intermediate objective is often reflected in controlling rate of return and money supply. With the monetary policy aimed at controlling monetary aggregates, attempts are made to prevent monetary expansion, incompatible with liquidity and inflation targets set in the development plans, and to finance productive and investment sectors.Monetary Policy Instruments in Iran

In implementing monetary policy, the Central Bank can directly resort to its regulating

power or affect money market conditions indirectly as issuer of high-powered money (notes and

coins in circulation and deposits held with Central Bank). On this basis, two different monetary

policy instruments are being utilized: direct instruments (with no reliance on market conditions)

and indirect instruments (market-oriented):

1. Direct Instruments

1.1. Banking profit rates - With the implementation of Usury-free Banking Law and the

introduction of contracts with fixed return and partnership contracts, the regulations pertaining

to determination of profit rate or expected rate of return on banking facilities and the minimum

and maximum profit rate or expected rate of return, as is stipulated in the by-law of the Usuryfree

Banking Law, are determined by the Money and Credit Council (MCC). Moreover, the CBI

can intervene in determining these rates both for investment projects or partnership and for other

facilities extended by banks.

1.2. Credit ceiling – According to Article 14 of the Monetary and Banking Law of Iran, the

CBI can intervene in and supervise monetary and banking affairs through limiting banks,

specifying the mechanisms for use of funds and determining the ceiling of loans and credits in

each sector.

2. Indirect Instruments

2.1. Reserve requirement ratio: Reserve requirement ratio (RRR) is one of the CBI’s indirect

instruments of monetary policy. Banks are obliged to deposit part of their liabilities in the form

of deposit with the CBI. Through increasing/decreasing this ratio, the CBI contracts/expands the

broad money. According to Article 14 of the Monetary and Banking Law of Iran, the CBI is

authorized to determine RRR within 10 to 30 percent depending on banks’ liabilities’

composition and field of activity.

2.2. CBI Participation Papers: Appropriate implementation of monetary policies by the CBI is

done through open market operations, which provide the required flexibility in liquidity

management and intervention in the money market. Following the implementation of the Usuryfree

Banking Law, tailoring appropriate Sharia-based instruments for the development of open

market operations in the context of liquidity management and affecting money and capital

market became a necessity. Utilization of bonds, owing to its fixed interest rate nature, is

prohibited according to Islamic Sharia; however, utilization of participation papers and

investors’ partnership in economic activities and payment of profit is encouraged. According to

the 3rd FYDP Law, the CBI was authorized to issue participation papers through the MCC

approval. However, based on the 4th FYDP Law, issuance of Participation Papers by the CBI is

authorized upon the approval of the Parliament. By using this instrument, the CBI could affect

broad money (M2) through monetary base, thereby controlling the rate of inflation.

2.3. Open deposit account (ODA): One of the bold measures taken for the efficient utilization

of indirect monetary instruments in the framework of the Usury-free Banking Law is to allow

banks to open a special deposit account with the CBI. Regulation on ODA was approved by the

MCC at the end of 1377 (1998/99). The main objective of this plan was the adoption of

appropriate monetary policies to control liquidity through absorption of banks’ excess

resources. The CBI pays profit to these deposits on the basis of specific rules.

 

Banking System and the 4th FYDP

Major Monetary Policies in the 4th FYDP Law

Article 2, Paragraph B: To create financial and budgetary discipline during the course of the

Plan, monetizing budget deficit through borrowing from the CBI and the banks is prohibited.

Article 10:

Paragraph A: Since the beginning of the 4th FYDP, allocation of banking facilities (by

various economic sectors and regions) and priorities given to sectors and regions shall be

carried out through encouragement of the banking system by using cash subsidy and

administered funds with the approval of the Cabinet.

Paragraph B: Requiring banks to extend facilities at lower rates, within the framework of

Islamic contracts, shall be allowed if the difference between the lower rates and the official

determined rate is financed through subsidies by the government or administered funds. Reserve

requirement ratios for commercial banks, private banks and non-bank credit institutions are

unified at the rate of weighted average of reserve requirement ratio at the end of 1382.

Paragraph C: 1. To enhance economic growth, curb inflation and improve the efficiency of

the banking system’s financial resources, the government is required to reduce its

indebtedness to the CBI and banks during the 4th FYDP through the inclusion of

repayments in the annual budgets.

2. During the course of the 4th Plan, at least 25 percent of banking facilities shall be

allocated to agriculture and water sector in coordination with relevant executive bodies.

3. Increase in the outstanding of directed credits during the 4th FYDP period shall be

reduced by 20 percent on average per annum compared to the approved figure for 1383.

4. The government is obliged to take initiatives regarding the establishment of

electronic banking system and putting into operation the national and international

electronic banking services and payment systems in all banks and for all clients.

Paragraph D: To create a competitive environment free from monopoly in the banking

system and to economize the operation of public institutions and organizations, enterprises,

entities and municipalities, the mentioned enterprises are authorized to select the agent bank

themselves to receive banking services.

Paragraph E: The composition of the General Assembly of the Central Bank of the Islamic

Republic of Iran is as follows: the President (Chairman of Assembly), Minister of Economic

Affairs and Finance, Head of Management and Planning Organization, Minister of Commerce

and a minister selected by the Cabinet.

Note 1: The Governor of the CBI is appointed on the basis of the President’s nomination,

after being confirmed by the General Assembly, upon President’s decree.

Note 2: The Deputy Governor of the Central Bank is appointed on the basis of the Governor’s

nomination and after being confirmed by the General Assembly, upon President’s decree.

Paragraph F: The composition of the membership of the Money and Credit Council (MCC)

is changed as follows:

- The Governor of the Central Bank of the Islamic Republic of Iran,

- The Minister of Economic Affairs and Finance or his Deputy,

- The Head of Management and Planning Organization or his Deputy,

- Two ministers, selected by the Cabinet,

- The Minister of Commerce,

- The Head of Iran Central Chamber of Cooperative,

- Two monetary and banking experts nominated by the Governor of the CBI and confirmed

by the President,

- The Attorney General or his Deputy,

- The Head of the Chamber of Commerce, Industries and Mines,

- Representatives of the “Economic Affairs” and “Plan and Budget and Audit”

Commissions of the Parliament as observer, selected by the Parliament.

Note: The Council will be chaired by the Governor of the CBI.

Paragraph G: To implement monetary policies, the CBI is authorized to use participation

papers or other similar instruments within the framework of Islamic contracts, subject of

Usury-free Banking Law approved in 1362, with the approval of the Parliament.

Paragraph H: In order to maintain public confidence in the banking system, the system of

deposits insurance is being created, and the Ministry of Economic Affairs and Finance is

required to put into effect the necessary legal measures by the end of the first year of the 4th

FYDP.

Article 13:

B: The government is obliged to:

1. Schedule the repayment of external debts (short- and medium-term) in a way that their

repayment would not exceed 30 percent of government foreign exchange revenues by the end

of the last year of the 4th FYDP (excluding buyback agreements). Priority will be given to

long-term debts.

2. Arrange the repayment of external debts during the course of the 4th FYDP in a way that

their net current value would not exceed $30 billion in the last year of the 4th FYDP,

excluding debts due to contracts subject to Foreign Investment Promotion and Protection Act.

 

Source : http://www.cbi.ir/

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