1 week Ago
The local foreign exchange (forex) situation has been an ongoing topic of discussion. Given the reduced supply of foreign exchange available to the banks, they have had to make decisions on how this diminished supply is sold to their customers. This has led to various limits on foreign credit card usage and forex sales to customers.
None of this has been popular, but given the circumstances it has been unavoidable. How did we reach this point? Simply, there’s insufficient forex supply to meet demand. Our foreign exchange earnings have fallen due to declining commodity prices, local production, and reduced export activity.
We’re producing less foreign exchange-earning goods, and hydrocarbon exports are receiving lower prices. Despite a possible decline in demand, it hasn’t fallen as fast as supply, creating the challenge. Given this problem, three simplified theoretical solutions exist: 1.
Economic theory suggests that as demand exceeds supply, the item’s price increases, leading to an exchange rate increase. 2. Increase foreign exchange supply through higher commodity prices, increased production, and expanded exports.
3. Reduce foreign exchange demand through reduced imports and import substitution. Unfortunately, our reality is different from theory.
Here are some relevant points: 1. The authorities don’t want to change the exchange rate. 2.
We can’t control commodity prices; our ability to increase hydrocarbon production is limited, and where it exists, the impact won’t be immediate; our local export sector faces similar challenges. 3. Demand for imported goods remains unabated and world trade rules do not allow the imposition of banning of imports or prohibitive tariffs.
So, we are faced with rationing of the limited available foreign exchange, with the resultant inconveniences. Unless the structural forex challenges are addressed, solutions will be temporary band-aids facing similar criticism. Criticisms have been directed at commercial banks, including accusations of “hoarding”, “favouritism”, and “misuse” of forex.
A better understanding of the foreign exchange regime would help clear the air on some of these. In the case of a recent discussion around banks’ use of foreign exchange for foreign investments, maybe an understanding of how banks operate would help. The local commercial banks conduct the majority of foreign exchange transactions and operate under a foreign exchange management process dictated by the Central Bank of Trinidad and Tobago (CBTT), which includes: 1.
periodic fixed-rate foreign exchange allocations provided by the CBTT 2. selling foreign exchange to the public at a specified spread 3. a prohibition from purchasing foreign exchange above a specified rate 4.
daily reporting of forex transactions to the CBTT. Outside of the allocation provided by the CBTT, commercial banks also purchase foreign exchange from customers who have foreign exchange to sell. These purchases must be done in accordance with the pricing regulations set by the CBTT.
Banks operate what is commonly referred to as a Forex Trading book. They buy foreign exchange from the CBTT and customers, and sell this same foreign exchange to customers who want it. The viability of this aspect of any bank’s business is based on the bank being able to buy enough foreign exchange to meet demand from its customers, and selling that foreign change for a price slightly higher that it paid for it (this is called “the spread”).
The banks can only sell what they buy and in a situation of reduced supply, significant demand and set prices by the CBTT, hoarding would make absolutely no sense. Banks make forex allocations to their customers based on various factors. These include, but are not limited to, the use to which the forex will be put, the extent of the relationship with the customer, the amount requested by the customer, and the total amount available to be allocated.
These are business decisions that apply in any free-market business relationship, and will vary from bank to bank and customer to customer. It would be a retrograde step to seek to legislate how banks allocate forex to their customers, as is being suggested by some. Local banks invest in foreign currency-denominated financial instruments and foreign entities/operations as part of their regular business.
Foreign exchange used for the foreign currency-denominated financial instrument investments is a combination of foreign exchange deposits held for customers and the banks’ own foreign exchange assets. The returns on these investments add to the banks’ foreign currency assets and enable them to pay interest on foreign currency deposits where applicable. Acquisitions of foreign entities are made using a combination of the banks’ own foreign currency and the proceeds of foreign currency loans which are repaid using foreign currency flows from investments and foreign operations.
None of these investments involve foreign currency purchased from the CBTT or local customers, so they do not affect the local forex situation. It is acknowledged that the current forex situation creates significant angst, concern and inconvenience, but it is important to understand the fundamental cause of the situation and the dynamics of the system, so even if we can’t fix the problem immediately, we are better informed as we work toward a viable and sustainable way forward. Derwin Howell.
