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still remained. Throughout the 1970s the reserve requirement for commercial banks was

invariably set at 20 per cent, while the reserve requirements for thrift banks, rural banks

and other non-bank financial institutions were adjusted from time to time.9 Considering

that the total deposits of commercial banks accounted for 75-85 per cent of the total

deposits liabilities of the financial system, the invariable reserve requirement ratio for the

commercial banks reflected the confidence of the Central Bank to control reserve money

by other means, particularly the open market operations.

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8 For the actual reserve requirement ratios, see Central Bank of the Philippines (1990), pages 5-9. 9 In 1970 the reserve requirement of commercial banks was set initially at 17 per cent of the total deposits but this was raised in a staggered fashion of one-half a per cent until it reached 20 per cent in August. Alter that, it was maintained until September 1981.

185 However, since 1981 the legal reserve requirement of the commercial banks has been adjusted more frequently. It was set to 16 per cent in 1981 and gradually rose to 19 per cent in September 1983. In 1984, the ratio was raised to its highest level of 24 per cent to reduce excess liquidity in the banking system. After that it was reduced slightly to 21 per cent but was still considered to be the highest in Asia (Fry, 1988).

Interest rate policy is another instrument that affects demand and supply of credits. In the Philippines, the policy consists of ceilings on both deposit and lending rates of commercial banks and other financial institutions. In the 1970s, the ceilings were hardly adjusted although price inflation fluctuated sharply. Thus, the real interest rate moved inversely with the inflation rate. This created excess demand for credits that entailed the quantitative control of loans by the Central Bank. As a result, the interest rate policy not only failed to serve as an effective instrument but also became a problem for the monetary authority. After 1981, the interest rate policy was revised and the ceilings on interest rates was gradually lifted to make it an effective policy instrument.

It can be argued that the inflexibility of interest rate policy resulted from prevailing impractical law and banking practices. The ceilings on the loan rates were driven by the Catholic virtue that usury is a sin, rather than by the need to control investment (Viksnins, 1980). This was reflected by the passing of the Anti-Usury Law of 1916, w hich imposed limits of 12 and 14 per cent on secured and unsecured bank loans respectively. The ceilings on loans was abolished in 1981 when free-market rates were far higher than the ceiling.

The ceilings on deposit rates were affected by two factors. As the ceilings on loan rates were inflexible, the ceilings on deposit rates could not be adjusted either. In the 1970s when inflation rose sharply, there was an em ergence of non-bank deposit substitutes which offered higher interest rates than the ceilings. This led to further control of the non-bank institutions and increasing pressure from commercial banks to enforce the ceilings. Second, there was an increasing concentration of the Financial system which led to a bankers' cartel that practically replaced the Central Bank as the authority on interest rate policy (Fry, 1988). The Bankers' Association tried to hold deposit rates down and appeared to be able to manipulate the Manila Reference Rates, which are average deposit rates offered at different maturities as calculated by the Central Bank.

The margins on banking services and moral suasion are also used although they are less effective than other instruments. The fact that ceilings on loan rates were Fixed when there was constantly excess demand for loans has led to the practice of commercial banks imposing margins on loans. This effectively raises the cost of lending and further increases the distortion and discrimination against small borrowers. Moral suasion has also been used, but it seems less effective when there is less competition in the financial market.

T h ailan d

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In Thailand, the important instrum ents of monetary policy are also under the control of reserve money of commercial banks and interest rate policy. Reserve money is controlled by the Bank of Thailand’s credits to commercial banks and the legal reserve requirement. The credit to commercial banks is provided in three windows. The loan

vindow is the operation of the Bank as the lender of last resort to commercial banks.

The amount of credit under this window is influenced by the Bank's loan rates and the cuota for each commercial bank's access to the facility. The refinance window is provided for the purpose of allocating financial resources at preferential interest rates, through commercial bank channels, to priority sectors. The availability of credit is influenced by the policy of the Bank on econom ic developm ent as well as the rediscounting policy of the Bank. The repu rch ase window is operated for the transaction of government bonds and is influenced by the repurchase rates. In the 1970s, the loan window was the most important channel to control reserve money. Hence, the announcement of the Bank's loan rates reflects the determination of the monetary authority to affect the liquidity of the banking system. However, in the 1980s, the availability of government securities has increased and the open market operation in the repurchase window has become more active.

Unlike the Philippines, the legal reserve requirement in Thailand exists for prudential purpose rather than being an instrument of monetary policy. It was also set with a low reserve ratio and made no discrimination against demand or savings deposits. The range of legal reserve requirements that was first prescribed in the Bank of Thailand Act B.E. 2485 was between 9 and 20 per cent of total deposits, but the actual reserve ratio was initially set at 10 per cent. Later, the range of legal reserve requirements was revised by the Commercial Banking Act of 1962 to between 5 and 50 per cent of total deposits. Instead, the actual legal reserve requirement ratio was reduced to 6 per cent of total deposits. It went up to 7 per cent in 1969 and has not changed since. There can be two reasons why the legal reserve requirem ent has never been practically used to influence the reserve money of commercial banks. First, as the reserve money of the commercial banks is the inventory for the bank to expand credits, the banks will only hold the minimum reserve that is sufficient for managerial needs involved in currency payments and check transfers. This reserve holdings may well be above the legal requirements if the requirement is low. The fact that the legal reserve requirement in Thailand is already at a low level, and is indeed the lowest in Asia (Fry, 1988) means that this legal reserve requirement may not be binding. Therefore, to raise the legal reserve ratio may not lead to a contraction of credits unless the ratio is increased considerably. Furthermore, the commercial banks can and always borrow from abroad when they need to increase their reserves. Thus, the upward adjustment in the legal reserve requirement will have no effect in curtailing credit expansion of the commercial banks. Second, the

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