Question

1. Identify and briefly describe the ways that may be used by the Central Bank of Oman to influence money supply.  

2. Many businesses have been financially negatively impacted by Covid-19 episode and have not been able to pay back loans. Explain how this situation would impact the national money supply in the economy and how the Central Bank of Oman could rectify the situation.

3. With decreased oil prices Oman government is challenged in raising finances for public expenditures. Explain how the government could raise finances through the Central Bank of Oman and the present difficulties to such raising of funds.

Answer 1

Answer 1

The currency peg regime adopted by the Sultanate constrains it from pursuing an independent monetary policy. But in order to defend the currency peg effectively, it is imperative for the CBO to maintain adequate foreign exchange reserves and ensure appropriate local currency liquidity in the system to support growth. The CBO usually ensures that there is adequate liquidity in the system by absorbing and/or injecting liquidity from time to time depending on the situation through various instruments at its disposal.

The CBO employs the following instruments to bring about the targeted liquidity changes:

Reserve Requirements: The most-widely employed direct instrument of monetary control used by central banks. The CBO also employs this instrument and immobilises a fraction of the banking system resources by prescribing that banks have to compulsorily maintain a portion of the deposit base by way of cash balances and/or securities with the CBO. By raising or lowering the reserve requirement ratio, CBO will be able to impound or augment the system liquidity.

Repo/ Reverse Repo operations:   Central banks extend the facilities of repo and reverse repo to banks to enable them to borrow short term funds/ to invest short term surpluses against approved securities which are used as collaterals. These instruments are employed by a large number of central banks across the world to affect the systemic liquidity. The CBO extends the repo facility only to banks for a period extending up to 26 days against collaterals of CBO, such as: Certificates of Deposit, Government Treasury Bills and Government Development Bonds. The interest rate on this facility is announced on a weekly basis.

Effective from 18th March 2020, CBO Policy rate (Repo) is derived using upper bound TFFR + spread (of 25 bps for the present). This facility is available to licensed banks at their initiatives as per allocated limit up to the collaterals they own.

Discount/ Rediscount of Commercial Papers: CBO also extends the facility of discounting/rediscounting commercial papers up to specified maturities to the Licensed banks in the Sultanate. The commercial papers should have arisen out of genuine trade transactions like import, export, storage, trading, production, processing, conditioning and marketing and transportation of industrial goods and agricultural produce. Each licensed bank is allocated a limit up to which this facility can be availed from the CBO. As in the case of CBO’s Policy Rate, the interest rate on Discount facility is also announced on a weekly basis.

Certificates of Deposit: Certificates of Deposit (CD) issued by the CBO to licensed banks. They are short-term instruments, to absorb liquidity when CBO considers it appropriate. The primary objective of CDs is to mop up the excess liquidity in the banking system, and to ensure that the inter-bank money market functions in a stable and orderly fashion.

CDs are issued in different short term maturities, at the discretion of the CBO and as considered appropriate for attaining the monetary policy objectives. The issuance of CDs is done on a weekly basis (every Tuesday) through an online auctioning system (Depox-SSS) where local Banks wishing to apply for CDs should submit their bids (expected rate of interest on CDs) through SSS-interface between 09.30 am and 11.00 am (Oman Local Time).

CDs are normally issued on Wednesdays by debiting the clearing accounts of the allotted banks. On the maturity date, the clearing accounts of the banks are credited with the principal amount plus the interest.

Discounting of Treasury Bills: CBO also extends the facilities of discounting the treasury bills anytime during the life of these instruments. Effective from 18th March 2020, CBO TBs Discount rate is CBO Repo rate + spread.

Foreign Exchange Swaps: CBO offers the facility of Foreign Exchange Swaps to banks whereby the banks are permitted to swap US Dollars for Rial Omani (RO) to meet their short term liquidity requirements in RO. The swaps are offered for durations ranging from overnight up to a maximum of one month. The USD/ RO spot exchange rate will be the mid rate between bid and offer rates as per CBO quotations, that is 384.5 baizas per USD. For arriving at the forward rate, appropriate benchmarks rates for both USD and RO are used. In addition, an adjustment factor is also loaded on to the forward rate.
The foreign exchange swaps are undertaken with banks by the CBO within the pre specified limits allocated to banks.

Direct Lending of US Dollars to Local Banks:    In addition to reverse swaps, CBO has also introduced a scheme of direct lending in USD to licensed local banks for a period of one /three months at a suitable spread over the prevailing LIBOR rates.

The last two facilities are made available by the CBO to the licensed local banks to meet their liquidity requirements during abnormal times. The USD funds under these two facilities are allowed within a combined pre specified limits allocated to banks. Since these two facilities have been extended by the CBO more as measures to alleviate the impact of the financial crisis, they are not expected to serve any monetary policy objectives.

Answer 2

The rapid spread of the novel coronavirus (Covid-19), which has been declared a pandemic by the World Health Organization, is adversely affecting economies and businesses around the world. Governments are announcing relief measures to mitigate its economic impact and help individuals and businesses navigate these unprecedented times.

1.    Economic measures

On 18 March 2020, the Central Bank of Oman (CBO) announced a comprehensive incentive package to inject additional liquidity of more than OMR 8 billion (USD 20.78 billion) into the economy. Key measures announced as part of the package include:

• Lower capital conservation buffers by 50%, from 2.5% to 1.25%

• Increase the lending ratio/financing ratio by 5%, from 87.5% to 92.5%, on the condition that this additional scope be reserved for lending to productive sectors of the economy, including the healthcare sector

• Accept requests for deferment of loans/interest (profit for Islamic financial institutions) for affected borrowers, particularly SMEs, with immediate effect for the coming six months without adversely impacting the risk classification of such loans

• Defer the risk classification of loans pertaining to government projects for a period of six months

• Local banks to consider reducing existing fees for various banking services and avoid introducing new fees in 2020

• Reduce the interest rate on repo operations by 75 basis points, to 0.50%, and increase the tenor of repo operations up to a maximum of three months

• Decrease interest rate on discounting of government treasury bills by 100 basis points, to 1.00%

• Reduce the interest rate on foreign currency swap operations by 50 basis points and increase in the tenor of swap facility up to a maximum period of six months

• Lower the interest rate on rediscounting of a bill of exchange and promissory note (with two signatures) by 100 basis points, to 3%

• Decrease the interest rate on rediscounting of a promissory note with acceptable guarantee by 100 basis points, to 3.25%

• Reduce the interest rate on rediscounting of a promissory note accompanied by trust receipt by 125 basis points, to 3.50%.

In addition to the above, on 23 March 2020, the CBO announced additional measures urging banks to identify the ‘most critical functions’, which need to be carried out without disruption, and provide suitable staff (and backup), both at the premises and working from home. These functions, at a minimum, should include:

Electronic/digital payments	Trade transactions
Online services	Treasury operations
International payments/remittances	Emergency loans
Processing of salary payments	Government transactions
Cheque processing	Call centres
ATM/CDM services	Fraud/cyber risk monitoring services

• Remittance services provided by local banks should be at minimum cost in view of the closure of money exchanges, as per the directives of the Supreme Committee
• Banks to waive charges levied on point of sale (POS) transactions

• Use of old cards to be enabled under prompt notification to customers wherever debit/credit cards could not be renewed, or renewed cards could not be delivered to customers

• Separately, the CBO has further extended the deadline for the completion and submission of audited financial statements/net worth statements for borrowers to 30 June 2020.

2.     Tax relief measures

The following corporate tax relief measures were announced by the government on 31 March 2020:

• Deferral of tax return filing and payment of tax by up to three months from the due date

• Exemption from all fines and penalties related to such deferred filing and tax payments

• Tax deductions for all donations or contributions made toward handling the COVID-19 pandemic, in accordance with the prescribed rules under the income tax law and the executive regulations

• Other measures include flexible tax payment mechanisms; extension of timelines for filing objections against tax assessments; and additional time to submit supporting documents and clarifications for ongoing objection proceedings. Refer to our Tax flash for further details.

In addition to above, other tax measures announced by the government included:

• Exemption from tourist and municipality tax (applicable at 4%) for restaurants until 31 August 2020
• Exemption from municipality tax (applicable at 5%) for commercial establishments until 31 August 2020.

3.    Customs-related measures

The Omani customs authority has announced that where the importer is unable to obtain or produce the necessary authorizations (i.e., documents and certificates of the goods from the exporting country), the relevant goods will still be cleared.

Further, the current requirement to obtain a guarantee for the non-submission of original legalized documentation has been waived until further notice.

4.    Other relief measures

• Postpone loan instalments/premiums for small and medium establishments, i.e. fees payable to Al Raffd Fund, for the next six months
• Defer loan instalments/premiums payable to Oman Development Bank during the next six months
• Grant rent exemption to factories in industrial cities for a period of three months
• Exempt companies from Commercial Register renewal fees for the next three months
• Car (automobile) sale agencies and finance companies to postpone instalments/premiums of cars for a period of three months.

5.  Conclusion

The Covid-19 pandemic, and precautionary measures taken by the Sultanate of Oman, have affected the normal operations of the business sector and given rise to various challenges. With a view to mitigating the effects of these precautionary measures, the government has introduced a number of relief initiatives to relax statutory and regulatory compliance for businesses. These measures would also likely help in the management of financial and operational burdens.

Answer 3

Lower oil prices may be a boon to European consumers but oil producing countries like Oman are experiencing a crisis.

Crude oil prices in the Gulf have dropped around 40 percent from their peak last year. As a result, oil exploration and drilling companies are not digging new wells and workers on existing oil rigs face unemployment, according to Saud al Salmi, chair of the trade union at Petroleum Development Oman, the country's largest oil company.

Al Salmi says contracts between the workers and oil drillers used to be automatically renewed.

"Now some contracts are finishing and there is no other contract coming," he said. "The companies basically started laying off staff.

And the impact of the crisis isn't limited to those directly employed in the oil industry.

Slashing public spending

Oman is among the Gulf countries that are heavily dependent on oil to fund their national budgets. The Omani government made $4.35 billion from oil sales in the first quarter of this year, down 35 percent from one year ago.

It now plans to slash its spending on defense by a quarter, and halve social spending.

"We need to learn from previous ups and downs of the oil price, and not sleep when the prices are high," said al Salmi. "Keep that money for the dark days when prices go down."

But so far, that hasn't happened. During boom times, the Omani government spent freely on subsidizing gasoline, as well as in social spending to appease Arab Spring demonstrators.

Corruption and lavish spending on the country's autocratic monarchy also drained billions of dollars from the national budget.

According to Sadeq Sulaiman, a former Omani ambassador to the United States, the budget cuts won't hurt the rich.

"The most affected is the middle class, not the top people," he said. "They can survive, like the Gulf States, for another 30 years with the money they have."

Omanis blame Saudi Arabia

Many Omanis believe Saudi Arabia holds at least part of the blame for their economic woes. They suspect their neighbor of maintaining high production in a deliberate bid to drive down prices, dealing a blow to its foes Iran and Russia, while grabbing market share from US oil producers.

Sulaiman says Saudi Arabia keeps production high for a number of reasons – including to fund its current war with Yemen.

"Their security needs have increased a lot," said Sulaiman. They produce more to spend more.”

But he says political motives may also play a role.

"I wouldn't discount completely that there is (an) element of a political kind of consideration as far as Russia is concerned, as far as Iran is concerned, by keeping production high."

Diversifying the economy

Regardless of the cause, low oil prices are hitting Oman hard. A massive 77 percent of the country's budget comes from oil revenue.

As far back as 1990, Oman's leaders discussed the importance of diversifying the economy to become less dependent on oil. Yet today the country has almost no manufacturing or agricultural production.

Tawfeeq al Lawati, a member of the executive committee of Oman's Shura Council or lower house of parliament, says the country plans to develop manufacturing, transportation and tourism.

A first step is to develop refineries to process oil into diesel and other petrochemicals.

"We have a business plan," he said. "Rather than exporting an oil barrel for 100 dollars, adding value to it by refining it and having different derivatives, which could also lead to different chemical products."

Logistical hub

The government is also building a huge, modern port in Duqm, on Oman's central coast. Currently, ships exporting oil from Iran or Iraq must pass through the Straits of Hormuz. Ships carrying manufactured goods traverse the Straits in the other direction.

In recent years, wars and political instability have closed the Straits. Al Lawati says the Duqm port could become an alternative shipping route.

Oil producers could store their product in Duqm and then load it onto modern tankers. Other ships could offload in Duqm and transport their goods by land to the nearby countries of the Gulf Cooperation Council, or GCC, such as United Arab Emirates or Qatar.

"Oman could become a main logistics hub for the region," said al Lawati. "The government is upgrading the infrastructure, the transportation, even the introduction of the railway and linking it with the GCC."

Still, similar plans for economic development have been discussed in Oman for years. It remains to be seen whether they will be put into action.