BOJ says new auction system will cut currency speculation

Tuesday, April 18, 2017

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The Bank of Jamaica (BOJ) indicates that its introduction of a new multiple-price auction system, slated for start-up in fiscal year 2017/18, will cauterise inefficiencies that now include the ability of some dollar buyers to speculate and profit overnight.

The BOJ, in background provided on the new system being contemplated, said that its current intervention rate is at the previous day’s weighted average selling rate and may not reflect the true market price on the day of the transaction.

"This means that some institutions may be buying foreign exchange from the central bank at a price that is either too expensive, or too cheap, compared to what those institutions would have paid in the market."

It also means, the central bank said, this "allows some institutions to exploit its operations through the arbitrage opportunities that it creates.

"Institutions can buy foreign exchange from the central bank at a rate that is relatively cheap and then immediately resell at a larger-than-normal profit. Given that there are no restrictions on the final recipients of the intervention funds, market participants may also use the opportunity to cheaply build individual foreign exchange positions, which is not the intention of central bank intervention.

"Episodes of interventions may therefore induce foreign exchange demand that is even greater than the actual imbalance in the system that the intervention attempts to address," the central bank said in its advisory.

Instead of the current style of announcing interventions, the new multiple-price foreign exchange auction, the BOJ said, will see it both buying and selling regularly and predictably, allowing the market to do so competitively, with a few rules and restrictions to ensure orderly and equitable trading.

Auctions will enable market-based price signals and provide a more transparent process for transactions, the BOJ said, with no prescribed exchange rate at which it trades with authorised dealers (ADs) and cambios.

During 2016 the BOJ continued to face new stresses in the foriegn exchanger market.

To curb the demand pressures within the foreign exchange market during the year, the bank increased its intervention sales and also increased the cash and liquid asset reserve requirement for foreign currency liability, as well as discontinued remuneration on foreign currency reserve holdings aimed at dampening the growing trend in dollarisation.

At 45 per cent of total accounts, it is estimated that the Jamaican financial system is among the most dollarised in the Caribbean. As outlined in the 2016 Financial Stability Report, locally, appetite for the US dollar continued to grow as financial system dollarisation continued for both deposit-taking and security dealer sectors.

The BOJ notes that the annual growth in foreign currency-denominated assets of 15.1 per cent or US$618.9 million compared to 5.6 per cent during 2015. The increase in foreign currency assets was concentrated in loans and advances of US$281.1 million, cash and placements of US$187.7 million, and investments of US$136.5 million.

Meanwhile, liquidity conditions within the foreign exchange market also deteriorated with a faster pace of depreciation in the value of the Jamaican dollar relative to its US dollar counterpart. The Jamaican dollar depreciated by 6.3 per cent vis-à-vis its US counterpart during the year in comparison to 4.8 per cent in 2015.

As it outlined the benefits of the multiple-price auction, the BOJ said other inefficiencies in the current system include miscalculations in allocating funds.




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