RIYADH, 5 March 2007 — Latest SAMA data show that liquidity (as measured by broad money supply, M3) has declined for the first time in six months since July. If we ignore the small July drop — as it is a seasonal phenomenon — this is the first January drop in liquidity in two years. M3 fell by 0.4 percent or SR2.7 billion in January, after reaching a record level in December 2006 at SR660 billion.
A look at the components of M3 show a mixed picture. Currency in circulation dropped by SR4 billion in January after a whopping SR5 billion rise in December.
Demand deposits show its third monthly rise in January by SR4.8 billion after a combined rise of SR17 billion in Nov. and Dec. Time and savings deposits, on the other hand, showed its first decline by SR3.4 billion, after six straight months of growth.
It is difficult to explain these changes because there are a number of actors (SAMA, the banks and the public) and factors involved the public’s demand for money and its allocation among the three components of cash, checking and savings accounts, SAMA monetary policy, and the banks’ appetite for loans.
Nevertheless, the fact that total liquidity (M3) declined in January is consistent with SAMA’s stated desire to cool liquidity growth. The increase in cash in December and the subsequent decline in January maybe associated with the Haj (cash is used by pilgrims for transactions). Not only cash held by the public but also “vault cash”, i.e., cash held by the banking system in their vaults also declined SR4.5 billion in January. Some of it, no doubt, winded up as increased demand deposits — banks “converting” the idle cash into loans and creating deposits in the process. This may help explain the increase in demand deposits in January.
The increase in savings deposits over the past few months was probably due to a rising domestic interest rates environment.
However, as interest rates have flattened out or even dropped in recent months, the January decline in savings deposits maybe a shift away in the public’s preference for interest bearing deposits.
The cut in base money (i.e., cash and currency outstanding plus bank deposits with SAMA) in January will most likely lead to further curtailment of liquidity in the months ahead as the banks’ ability to create money through lending is reduced. Reserve or base money declined by SR8 billion in January after a whopping SR20 billion increase in December. SAMA data on bank loans bear out this conclusion. Bank loans, advances and overdrafts dropped by SR7 billion in January, the first major drop in loans since Nov. 2004 (Note: there was a small drop in loans of SR711 million in April 2006). On a 12-month basis, i.e., over Jan. 2006, bank loans and advances to the private sector remain 7.4 percent higher at SR445 billion against SR414 billion.
We expect this to continue trending down consistent with SAMA directives, banking sector’s reduction in exposure to the stock market and decline in base money. Finally, bank claims on the public sector was unchanged in January at SR158 billion. It remains 2.5 percent below its a year ago level of SR162 billion in January 2006.
(Khan H. Zahid is chief economist and vice president at Riyad Bank. He is based in Riyadh.)
