If more liquidity is required to restore momentum, let there be liquidity

What statutory obstruction exists that prevents the Bank of Namibia from buying Namibian Government Bonds. If the Government Institutions Pension Fund (GIPF) can be a major investor in Namibian bonds, so can be the central bank.

Immediately I can hear the chorus of protests going up from so many private sector investors. “Was not that where Zimbabwe’s troubles started” they would ask, “and see where it has taken them.”

When government’s require liquidity to pay for their participation in the economy, they typically go to the so-called capital market where government bonds are listed. This follows a tender process with the Ministry of Finance indicating a certain target discount. This is more or less like stating an Asking Price. Private and institutional investors then submit their bids, offering what discount they expect to receive. In the meantime, they recalculate discount to yield, indicating to them what return they will get to the maturity of the bond.

In Zimbabwe’ case, this mark-to-market mechanism was sidestepped with their finance ministry simply instructing their central bank how much government bonds to buy at what discounts. This completely undermined the free-market principle. The outcome was a complete destruction of the Zim Dollar through hyperinflation. We are all painfully aware of the outcome of that calamity. The Zimbabwean Government ruined its own country.

But when the American government requires funding, it also follows the same tender process like in any other capital market, not much different from what we do. The difference is that the Federal Reserve is mandated to be a bond buyer so that the American Government can remain liquid. Where does this money come from?

The short answer is: From nowhere. It only becomes an entry on the Fed’s balance sheet, making it appear much heavier on paper, but not really changing anything to its own operations or income. It is why it is called fiat money. Fiat is the Latin for “let there be” and that is exactly what the Fed does, it lets money be.

The big difference is that the Fed does not circumvent the normal market channels. It allows the market to set the long-term interest rates and it follows this. So regardless of what amount the American Government needs to borrow, the Fed is the ready buyer, but restricted by the conditions and the rates as determined by the market.

The European Central Bank does exactly the same, also playing by the same rules. Of course, this inflates the balance sheets of both institutions, but it does not undermine credibility. In fact, the readiness of both the Fed and the ECB to play by the market rules, restores trust in the financial system to such an extent that government bonds in both Europe and America are viewed as so-called safe haven investments. This is demonstrated very clearly by how low yields on these bonds went over the past two years, in Germany so low, the yields became negative for a while earlier this year.

So what is there that prevents the Bank of Namibia to become a primary buyer of Namibian Government bonds? Scratching around this week to find out if the Bank of Namibia can be a bond buyer, I failed to find anything that prevents it.

I did come across a reference in a very neat piece of research work by stockbroking firm, Simonis Storm, stating that the GIPF has bought more than N$8 billion in bonds during this year but these purchases were tied to an asset swap.

Regardless, when the GIPF buys Namibian Government bonds, whichever way the transaction is structured, it creates an asset for the fund. The same principle can be applied to the balance sheet of the Bank of Namibia.

It would be irresponsible to say the Bank of Namibia can buy an unlimited number of government bonds, but if the same principles are followed that apply to bond purchases in Europe and America, and if specific ceilings are imposed, announced and published, it will not undermine trust ala Zimbabwe.

Also, the Bank of Namibia does not need to use pension fund assets to buy government bonds, it buys them by the liquidity it is mandated to create in and supply to the local economy. The only important condition is that the market must not be sidestepped. These transactions must be transparent and open to scrutiny by the investment community.

Many people find it difficult to get their heads around this concept, but it is the fundamental reason why a central bank exists. To create, maintain and regulate liquidity. The Namibian economy is in a crunch. It desperately requires more liquidity. Let there be liquidity.

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