On September 22, the Monetary Policy Committee (MPC) of the Central Bank will meet to set key interest rates or the so-called corridor rate.
Corridor Rate
The corridor is a minimum and maximum interest rate at which banks lend to each other liquidity (you can say banknotes) in the so-called interbank market.
The upper limit = the interest rate at which the Central Bank lends to banks.
The lower limit = interest rate for depositing excess liquidity with banks in the Central Bank.
Note: In English, inter means “between,” so interbank = between banks.
Note: the word cash reserves is used to refer to what we call liquidity in the banking sector.
Liquidity (cash reserves) in any bank is divided into two parts:
1) The minimum required to be maintained with the bank or in the central bank to meet the daily requirements of customers (required reserves).
2) Excess reserves that can be loaned.
How does the corridor rate work?
Scenario 1:
There is a scarcity of excess liquidity in all banks, and Bank A will not lend to Bank B except with a high-interest rate, possibly higher than the maximum limit of the corridor (which is known as the lending rate), and this contradicts the central target that was set by the MPC.
In this case, it is better for Bank B to borrow from the central bank at the upper limit of the corridor, and then the liquidity in the banking sector will rise again and the interbank interest rate will fall.
The upper limit for the corridor rate now = 12.25%.
Scenario 2:
There is excess liquidity in the banking sector, and Bank A cannot find someone to lend to them the excess liquidity; because all banks have a surplus. Its interest rate will be lowered in order to encourage banks to borrow from it, and it may drop below the minimum corridor.
But in this case, Bank A will find that it is better to deposit the excess liquidity in the central bank and earn the minimum corridor rate, which is currently 11.25%.
For that Reason
Corridor deposit rate → banks depositing excess liquidity at the central bank → Lower bound for interbank rates
Corridor lending rate = a central bank lends to banks Liquidity = Upper bound for interbank rates.
What is the Corridor Rate?
