Poor Policies Result with Poor Consequences 

    Interest is the psychological tool that changes the expectations in markets. In our modern world economy, the national central banks are the determinators of interest rate. We have been hearing that this central bank increased the policy rate to this percent. However, in most of the citizens mind the modern monetary system is an unknown information and the real purpose of interest is sometimes be distorted. This lack of knowledge about the structure of our modern economy makes the policy makers less cautious when it comes to the determination of these policies. In this work I will try to indicate that the cautiousness of policies that were implemented and what are the consequences of these policies in the perspective of the monetary policy affects the private banks (monetary transmission mechanism) with narrow statistical terms.

    Before starting our statistical examination of private banks’ balance sheet, we should understand how the monetary system actually works. Most of the countries determine their monetary policy through their national central banks, which are expected to be independent from the political government, in order to establish the neutrality. However it may seem independent as it is written on the constitutions of countries, some of the central banks should not be considered as independent. This is because of the vulnerability of the system that allows governments to exploit the potential of monetary policy. As we know private banks play the financial intermediary role. Private banks accumulate money in order to invest in future, which are labelled as liabilities except capital, through deposits or borrowing from central banks. So, we should indicate that the policy rates that national central banks announce is the rate that is implemented for borrowings of private banks from central banks. So, we should not forget private banks are the final decision makers when it comes to the interest rate on credits to consumers, at the same time we have to consider the affects of policy rates on the interest rate that banks apply to their credits. Also, banks have to take the consideration of risk of bailing out of its debtors. So, when banks are unwilling to lend credits, the interest rate it implements increases because of high risk premium and low money supply. This will lead to increasing number of other assets that banks hold, such as government bonds which are considered as safer even though give less interest rate compared to overall credit rates. As we can understand banks have to be careful when they structure their balance sheet, because if the assets are not going to be safe and gained that means the bank will be unable to pay the liabilities when the depositors are demanding their money. For example, depositors give money in return for a certain interest. Assume that banks are unable to collect the credits that it gave to borrowers. If depositors learn this fact, they will immediately withdraw their money from banks and bank-run will occur.

    In Turkey, we do not see any bank-run. The prudence of private banks is preventing this kind of occurrence. However, we have a different problem. Because of this high prudence, which is caused by the high risk of bailing-out due to uncertain expectations about inflation and interest rate controlled by Turkish Central Bank, banks are unwilling to lend credits. Instead, they invest to government bonds and other safer assets. As we have explained this causes to increase in interest rate because of high demand for credits and low supply of credit. Another point of evidence is that, because of high inflation depositors are also unwilling to hold their money in banks. Who wants to hold his money in a bank which gives 15% percent interest rate, while inflation is 60% or 70%? Irving Fisher in his book Theory of Interest explains this phenomenon as the real interest rate, which is approximately equal to nominal interest rate minus inflation rate.

\begin{equation} r=\textrm{Real Interest Rate}\; \;\; i=\textrm{Nominal Interest Rate} \end{equation}

\begin{equation}P_{t}=\textrm{Price Level at t Time}\;\;\; P^e_{t+1}=\textrm{Expected Price Level at t+1 Time}\end{equation}

\begin{equation} \pi^e=\textrm{Expected Inflation}\end{equation}

\begin{equation} 1+r=\frac{(1+i)\times P_{t}}{P^e_{t+1}}\end{equation}

\begin{equation} \frac{P^e_{t+1}-P_{t}}{P_{t}}=\pi^e\;\;\; P^e_{t+1}=P_{t}\times(\pi^e+1)\end{equation}

\begin{equation} r=\frac{(1+i)\times P_{t}}{P_{t}\times (\pi^e+1)}-1=\frac{1+i}{\pi^e+1}-1\approx i-\pi^e\end{equation}

        This negative real interest rate also makes banks vulnerable as the situation restricts banks from lending enough money to the private market. In order to solve this deposit problem and attract the depositors, the government allowed banks to offer deposits that are protected with compensation of exchange rate. In case of the return of any other foreign currency is higher than the return of the deposit, the bank will give the return from the exchange rate. However it seem a good idea, this experiment didn’t solve our actual problem, which is the high lending rates by banks. Even though Keynes was considered as an inflationist due to the stance that he has taken because of bad economic outlook from the deflation, he added an important indication in his article “There is no subtler, no surer means of overturning the existing basis of Society than to debauch the currency. By a continuing process of inflation, Governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens.” In the case of Turkey, we can observe the same kind of phenomenon described by Keynes, where banks are financing government expenditure by buying more bonds compared to the lending to the private citizens, which the consequences should not be loaded to the shoulders of private banks.

    From this point of view, we can easily demonstrate that private banks are doing what should be done, in order to preserve their future presence, which is the explanation of mechanism of capitalism. People like to say dirty capitalists are making huge revenues which were stolen from hardworking proletariat. Most of the time the revenues of private banks are used for the indication of this so-called greedy capitalist purposes. But most of the time people are not able to evaluate these revenues as a balloon that was generated by the inflation. “To the consumer the businessman’s exceptional profits appear as the cause (instead of the consequence) of the hated rise of prices.” Keynes said in his Essays In Persuasion. I do not blame the working-class people who are observing huge amounts of nominal revenue earned by banks and other financial institutions and thinking the inequality that is widened in last years. However, there are certain groups that provoke these people, which indicate them that banks are the responsible side in the formation of huge artificial gap, which was created by bad economic policies. As was indicated, high inflation is a bad thing by having two different features: First one is that it redistributes the wealth among the nation in an unfavourable way for saver class. Second one is which I tried to explain, the reflections of these artificial numbers that was created by inflation in the society.

    You may think that I give so many quotes from John Maynard Keynes due to lack of resources or etc. No, I discovered the genius which lies behind the Keynes and thought it would be a good idea to keep him alive not in order to preserve his ideas without any flexibility but to be able to show his characteristic approach to the problems of his time.

    I would like to finish my work with a certain indication that the current situation of our economical position lies on the hands of policymakers, not the internal viciousness of capitalist system. First of all we should be careful about the distinction between policy rate that is determined by central bank and the lending rates that are decided by private banks. I do not say that there is no relationship between them, but when it comes to the direction of policy rate that will affect the lending rates is an important question that should not be ignored. Secondly, and most importantly, the inlflated numbers of banks' incomes should not be evaluated solely by their nominal values. Due to erronous decisions we have taken that we have been experiencing, such as the result of high lending rates that are implemented by banks and difficulties that borrowers have been confronted.