This is How Taiwan's Central Bank Can Support the Economy Without Cutting Rates

(Bloomberg) -- With the policy interest rate stuck near a historic low and banks flush with cash, the central bank of Taiwan will likely continue with a rather more esoteric tool to guide money markets - central bank certificates of deposit.

These CDs are the main policy tool for Taiwan’s central bank to keep the liquidity in markets at a desired level. In its open market operations, the central bank sells them to commercial banks to subtract money from the market, and lets them mature when it wants to inject liquidity.

Central bank Governor Yang Chin-long said last week that Taiwan doesn’t have to follow the U.S. in cutting borrowing costs, but the quantity of liquidity in the Taiwanese banking system “should be heading in a loose direction.” His message indicates that policy makers will use the central bank deposit certificates to tweak the volume of liquidity in markets, rather than adjusting the benchmark interest rate.

When the central bank slows down the pace of issuance, like it did in May and June, policy makers effectively loosen monetary policy by withdrawing less cash from the markets. The outstanding amount of the securities shrank from a recent high of NT$7.85 trillion ($253 billion) to around NT$7.45 trillion as policy makers open the tap to help banks through a seasonal liquidity crunch.

The CDs have different maturities ranging from 7 days to two years, each with a different interest rate. The most frequently used one is the 7-day instrument, on which the central bank pays a 0.2% interest rate.

The central bank has used deposit certificates as the main monetary tool to adjust policy stance while keeping the benchmark interest rate unchanged for about three years. Local commercial lenders have tremendous amounts of liquidity, with a high savings rate and lackluster loan demand meaning a low loan-to-deposit ratio. That weak loan demand also means that the impact of any interest-rate changes would be limited.

To contact Bloomberg News staff for this story: Yinan Zhao in Beijing at yzhao300@bloomberg.net;Argin Chang in Taipei at achang153@bloomberg.net;Miaojung Lin in Taipei at mlin179@bloomberg.net

To contact the editors responsible for this story: Jeffrey Black at jblack25@bloomberg.net, James Mayger, Samson Ellis

©2019 Bloomberg L.P.

With assistance from Bloomberg