Monetary Policy

Money is a special commodity, but, like all other commodities, it carries value only if limited in quantity. In case a central bank issues (or, as people sometimes say, “prints”) money to cover government spending, it increases the amount of money in circulation greatly. However, the total demand for goods and services grows faster than the economy’s capacity to produce them, which would imminently translate into higher inflation.

That is, using money issue to finance the country’s needs can lead to adverse effects for the economy and public welfare, due to:

• inflationary processes
• depreciation of the domestic currency against foreign currencies
• an adverse long-term impact on economic growth.

For example, take Ukraine’s negative experience of the 1990s, when the NBU financed loans to some economic sectors and the large budget deficit. This made the macroeconomic situation in the country uncontrollable. In 1992–1994, inflation peaked at over 10,000%, and real GDP fell by 9.7% in 1992, 14.8% in 1993, and 22.8% in 1994. This resulted in a drastic decline in the living standards.

The initial issue of money is always conducted in cashless form through banks only (as the NBU operates exclusively via banks). The NBU can issue money using three channels:

• the credit channel, when banks take loans from the NBU providing government securities or foreign currency as collateral; the NBU credits these funds to the banks’ accounts
• the currency channel, when banks sell foreign currency to the NBU, which credits hryvnia funds to their accounts in exchange
• the stock exchange channel, when the NBU buys securities from banks and credits hryvnia funds to their accounts.

Issue of cash always derives from the noncash issue of money. A bank asks the NBU to debit its account and receives cash at the NBU’s cash desk. After that, the bank can distribute cash to its customers by debiting cash funds from their accounts. At the same time, the amount of money in the economy does not change: of cash hryvnia decrease, while hryvnia cash grows by the same amount.

According to the Constitution of Ukraine, the main function of the NBU is to ensure stability of the national currency, the hryvnia. According to the Law of Ukraine On the National Bank of Ukraine, in pursuing its main function, the NBU is primary responsible for achieving and maintaining price stability in Ukraine. In addition to this, the NBU also works to ensure financial stability (including the stability of the banking system) and to promote sustainable economic growth. However, these objectives are subordinated to the NBU’s primary commitment to ensure price stability.

Yes, many central banks around the world prioritize price stability. This is especially true for central banks that follow an inflation targeting approach. These central banks set and publicly announce a clear quantitative benchmark for inflation – an inflation target – and use monetary tools to achieve it within a specified period.