Monetary Targeting

1. Monetary Targeting

2. MONETARY TARGETING  A STRATEGIC APPROACH TO CONTROL INFLATION

3. FEATURES  *The central bank sets a target for the growth rate of a monetary aggregate, such as M1, M2 or M3, based on the expected inflation rate and the potential output growth rate. *The central bank adjusts the interest rate to keep the actual money supply in line with the target money supply. *The central bank does not announce the inflation target or the money growth target, but communicates its policy actions and intentions to the public.

4. *It provides transparency and accountability of monetary policy by linking it to a clear and measurable variable. *It anchors inflation expectations by signaling the commitment of the central bank to price stability. *It allows flexibility to respond to shocks by adjusting the interest rate or the money growth target as needed. *It is simple and easy to communicate to the public and the markets.

5. PROS: *Monetary targeting allows the central bank to communicate its policy actions and intentions to the public and the markets. *Monetary targeting reduces inflation uncertainty and volatility. *Monetary targeting enhances the effectiveness of monetary policy by influencing the long-term interest rates and exchange rates. *Monetary targeting anchors inflation expectations by signaling the commitment of the central bank to price stability.

6. CONS : *Monetary targeting depends on a stable relationship between monetary aggregates and nominal income. However, this relationship can be affected by changes in velocity of money, shifts in money demand and supply shocks. This makes it difficult to measure and control the money supply and to predict its impact on inflation and output. *Monetary targeting requires accurate and timely data on the money supply. However, the money supply can be influenced by factors beyond the control of the central bank, such as foreign exchange inflows and fiscal deficits. This makes it challenging to achieve the money growth target and to adjust it as needed.

7. INFLATION RATE TARGETING Inflation targeting is a strategy where the central bank announces an explicit inflation target and uses interest rates to achieve it. Inflation targeting has some advantages over monetary targeting, such as: *It does not depend on a stable money demand function or a reliable measure of money supply. *It directly targets the ultimate objective of price stability and anchors inflation expectations. *It allows more flexibility to respond to output shocks and financial stability concerns.

8. Inflation targeting also has some disadvantages compared to monetary targeting, such as: It requires complex models and forecasts and may be subject to measurement errors and revisions. It may be less transparent and accountable if the inflation target is not clearly defined or communicated. It may be ineffective if interest rates hit the zero lower bound or if inflation expectations become unanchored.

9. EXCHANGE RATE TARGETING Exchange rate targeting is a strategy where the central bank fixes the exchange rate to a foreign currency and adjusts the money supply accordingly. Exchange rate targeting has some advantages over monetary targeting, such as: *It provides a simple and clear nominal anchor for the price level and inflation expectations. *It reduces exchange rate volatility and uncertainty and promotes international trade and investment.

10. Exchange rate targeting also has some disadvantages compared to monetary targeting, such as: *It limits the independence of monetary policy and makes the country vulnerable to shocks from the anchor country. *It exposes the country to speculative attacks on the exchange rate and may require costly interventions or capital controls. *It may create conflicts with other policy objectives, such as output stabilization, employment creation or financial stability.

11. SUMMARY: *Monetary targeting is a simple rule for monetary policy that aims to achieve price stability by managing the growth rate of a monetary aggregate. *Monetary targeting can be compared and contrasted with other monetary policy strategies, such as inflation targeting and exchange rate targeting. *The choice of monetary policy strategy depends on various factors, such as the structure and development of the economy, the institutional and legal framework of the central bank, the degree of openness and integration with the global economy and the preferences and expectations of the public and the markets.

12. *Monetary targeting may be suitable for countries that have a stable and predictable relationship between money and inflation, a reliable measure and control of money supply, a low degree of openness and integration with the global economy and a high level of transparency and credibility of the central bank. *Monetary targeting may not be suitable for countries that face shocks to money demand or supply, conflicts with other policy objectives and achieving the money growth target.

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14. WHAT IS MONETARY TARGETING ? Monetary targeting is a strategy that uses monetary aggregates, such as the total amount of money circulating in the economy, as an intermediate target to achieve an ultimate goal such as price stability