The financial footprint of monetary policy

Monetary policy, orchestrated by the central bank, leaves a deep financial imprint on the economic landscape. This imprint becomes particularly evident when the central bank decides to raise interest rates.

When the central bank is compelled to raise interest rates to combat inflation, the cost of borrowing for the government sees an increase due to the rise in market interest rates. This increase in interest rates means that the government will have to allocate more resources to service its debt, resulting in a larger financial deficit.

What is the situation in Jordan, as indicated by the 2024 draft budget compared to the budget for 2023?

The data from the draft 2024 budget, recently presented by the government for parliamentary discussion and approval, indicates a significant and noticeable growth in the interest on public debt. This is evident in the current expenditure side of the budget, increasing by a percentage of 25.6 per cent in 2024 compared to the 2023 budget. Interest on public debt grew from 1577 million dinars in 2023 to 1980 million dinars in the proposed 2024 budget. This is primarily due to the growth in the volume of public debt and the increase in interest rates on public debt over the past two years (2022 and 2023) due to central banks raising interest rates, affecting both local and external market interest rates. The interest burden on the budget increased by 403 million dinars in 2024 compared to 2023, equivalent to 3.3 per cent of the total budget for 2024. This amount could have been allocated to capital projects or to support government universities, for example, which require significant amounts for infrastructure reconstruction.

Furthermore, the budget deficit in the general budget increased by 11.1 per cent according to the proposed 2024 budget compared to the 2023 budget, amounting to 206.2 million dinars.

In practical terms, the government faces several options to cover the financial deficit resulting from the increased borrowing costs, each leaving its own imprint on the economy. One avenue is to raise taxes, a measure not directly pursued by the government. It is known that this option could impede consumer spending and corporate investments, potentially harming economic growth. Alternatively, the government may choose to cut spending, which might hinder public services and infrastructure development. This is reflected in the slight increase in capital expenditures by only 138 million dinars or 8.7 per cent.

Another mechanism to alleviate the burden of public debt is to rely on inflation. Governments can allow a controlled level of inflation to erode the real value of debt. However, this comes with risks of affecting price stability and eroding the purchasing power of citizens. Given that the general goal of government policy must align with the central bank's goal of combating inflation, the government did not resort to inflationary measures. On the contrary, the government absorbed part of the price increases in the early months of 2022 to ease the burden on citizens when it bore the cost of rising oil derivative prices for several months.

It is clear that the chosen scenario is to finance the financial deficit by deferring the burden to the future, accumulating debt for future generations.

In conclusion, the immense effects of interest rate hikes are intricately linked to when and how the government compensates for this financial deficit. Effective and timely fiscal measures can mitigate negative effects, while delays in government response may amplify macroeconomic challenges.

Ultimately, the financial footprint of monetary policy dispels the misconception that monetary policy can be separated from public finance policy. Every move by the central bank leaves an impact on financial markets and, consequently, on the economy as a whole. Policymakers must consider this footprint when making decisions to ensure balance and stability in the financial and economic system.