One of the most important indicators of the state of the bank is the liquidity of its resources. A high level of this indicator means that this financial institution is able to pay its obligations both in the current and future periods. When the bank's liquidity, and hence solvency, falls, then refinancing is necessary. This means that the Central Bank of the state must allocate additional funds together with interested investors.
Fundamentals of financial system stability
The task of any Central Bank is to timely note the time gap in the liquidity of the bank, analyze it and, if necessary, find funds for its liquidation. Refinancing is a process that allows you to:
- Ensure the continuity of settlements in the national system of the economy by guaranteeing the liquidity of each individual bank.
- To monitor the situation in the monetary market by setting interest rates.
However, it is important to understand that refinancing is not a constant source of additional cash for financial institutions. The central bank is not interested in supporting a troubled financial institution on a regular basis. Therefore, any bank should strive to attract additional funds from new customers and shareholders.
Basic principles of competent refinancing
To ensure the stability of the monetary system of the state, the Central Bank, when providing additional funds to other financial organizations, should be guided by the following provisions:
- Preliminary establishment of limits and volumes of lending.
- Bank refinancing should be consistent with the objectives of an approved monetary policy.
- A financial institution in need should have no debt to the Central Bank and be able to repay a loan in the future.
- Availability of reliable provision of additional funds.
- The correct loan amount corresponding to the value of the collateral.
- The refinancing rate cannot be lower than the discount rate.
Types of loans
Refinancing is the last chance for most banks. The Central Bank is contacted when all other methods of attracting free cash have been exhausted, and the debt to customers still remains. There are two main types of loans: regulatory and specific. The former are permanent financial instruments and are used to control the money market situation. Specific loans are used to stabilize situations with a lack of liquidity in specific banks. To regulate the market, the Central Bank can also use repurchase and swap transactions.
Functioning mechanism
Refinancing is a process that looks like this:
- The bank has problems with solvency.
- The Central Bank analyzes the situation and makes a decision on granting a loan, for example, at $ 10 million for one year.
- A commercial bank lends money to its customers at a higher interest rate than the refinancing rate.
- At the end of the term, he returns 10 million with a bonus from the Central Bank.
- The money received as a result of this operation is redistributed and increase the solvency of the bank.
The Central Bank does not work directly with the population, since in this case millions of small borrowers would have to be controlled. Therefore, commercial banks act as intermediaries between him and ordinary people.
Refinancing rate
According to the Federal Law “On the Central Bank of the Russian Federation”, the Central Bank can provide additional funds for a certain period on a repayable basis to credit organizations to solve their liquidity problems. The refinancing rate is a tool through which interest on deposits and loans is monitored. Its decrease is beneficial to borrowers, while investors lose part of their income. Central Bank refinancing is carried out at a rate established or selected on the basis of market mechanisms.
Rationing of interest
Prior to 2010, the maximum amount recognized as an expense was equal to the following value: refinancing rate * 1.1. Now the second factor has been increased to 1.8 for ruble borrowings. If one of the indicators changes during the term of the loan agreement, a double calculation should be made. As for contracts using foreign currency, the refinancing rate is not used here. The maximum level that can be considered an expense is 15%.
