Nonlinear Inflation-Growth Trade-Off in Transition Economies: A Critical Analysis

1. Discussions on “Investigation non-linearities in the inflation-growth trade-off in transition countries” By Lena Malesevic Discussant: Iftekhar Hasan Dubrovnik, June 27, 2007

2. Summary of the paper • Research Question: for transition economies, does the low inflation rate targeting policy actually hurt economic growth in the long run? • Theoretical Root: based on theoretical framework (e.g., Akerlof et al. (2000) and Palley (2003)) that portrays inflation-unemployment relationship. The bottom line of their work is that a little inflation ‘helps’ to achieve less unemployment than implied by the natural rate of unemployment. As the author argues that low unemployment leads to higher productivity, thus a little inflation should also help to improve economic growth as well. • Gaps in existing empirical studies: existing studies show that threshold inflation level is lower for developed countries than for developing countries, but little is known for transition economies. • Findings: based on dynamic and static panel estimations, this paper empirically documents the nonlinearities in the inflation-growth relationship for eight transition economies in Europe over the period of 1990-2003.

3. Highlight of Good Points • First, this paper asks a very interesting and relevant research question, which is of great policy importance for central banks in transition economies. • Second, this paper is among the very few papers that address inflation-growth tradeoff issues in transition economies. • The evidence of this paper raises concern of the current inflation targeting policy in the transition economies. • Overall, this is a well-written, interesting paper with a lot of potentials to be an important piece of work.

4. Potentials of Improvement (I) • Need more argument or support (detailed) from existing theories of why higher inflation (below threshold inflation level) should promote economic growth, as illustrated below: Inflation Unemployment Growth Need more work

5. Potentials of Improvement (II) • Need to include more empirical studies that address the inflation-growth link in transition economies. Suggested work includes: • Fischer et al. (1996, J. of Econ. Perspectives) study experience of growth and stabilization in 26 transition economies in eastern Europe , the former Soviet Un ion and Mongolia for 1989-1994. These results strongly suggest that reducing high inflation is a precondition for the revival of growth. • Jones and Mishkin (2003, NBER), based on the inflation targeting experience in three transition countries: the Czech Republic, Poland and Hungary, conclude: “A key lesson from the experience of the inflation targeting transition countries is that economic performance will improve if the central banks emphasize avoiding undershoots of the inflation target as much as avoiding overshoots.”

6. Potentials of Improvement (III) • As most of the sample transition economies gained EU accession in recent years, which implies more free flow of labor and capital, and different rigidity of prices. --- So the author is invited to discuss more on the potential impact of EU accession (or potential accession) on the inflation-growth link. • Five of the eight sample transition economies gained accession to EU in 2004: • Czech Republic, Hungary, Poland, Slovakia, and Slovenia • Two of the eight gained accession to EU in 2007. • Bulgaria, Romania • One is still waiting in the line: Croatia

7. A Few Additional issues • Estimation of GDP (underestimate nascent private sector, over-estimate of public sector). • Campos and Corceli 2002, JEL paper, Growth in Transition, Acemoglu, Johnson, and Robinson (2006, Handbook of Economic Growth edited by Aghion and Durlauf), Institution as the fundamental cause of Long-run Growth. • Internal liberalization is costly (privatization, prices and labor market liberalizations) than external liberalization (trade, capital flow). • Earnest, Ging, Semmlio and Bukeviinte 2006 – Quantifying the impact of structural reform. • Ian Babetskii and Nauro F.Campos 2007 (BOFIT), Does Reforms Work?

8. Suggested Link to Future Work • More solid theoretical framework of inflation-growth tradeoff at low inflation level for transition economies. • Exploration of the role of institutional quality (e.g., corruption, democracy, etc.) beyond the EBRD scores on the inflation-growth link in transition economies. (J. Budak and R. Goel, 2006) • Huang and Wei (2006, J. of Intl. Econ.): Under a commitment regime, the equilibrium inflation rate goes up as the institutional quality becomes poorer. • Abed and Davoodi (2000, IMF) investigate the link between corruption, structural reforms, and economic performance in the Transition Economies. • When more recent data is available, empirical investigation of impact of EU accession on inflation-growth link in transition economies will be valuable.

9. References • Abed, George T. and Hamid R. Davoodi, 2000, Corruption, structural reforms, and economic performance in the transition economies, IMF Working Paper No. 00/132. Available at SSRN: http://ssrn.com/abstract=879906 • Denizer , Cevdet, 1997, Stabilization, adjustment and growth prospects in transition economies, World Bank Working Paper. • Fischer, Stanley, Ratna Sahay, and Carlos A. Vegh, 1996, Stabilization and growth in transition economies: The early experience, The Journal of Economic Perspectives 10, 45-66. • Huang, Haizhou, and Shang-Jin Wei, 2006, Monetary policies for developing countries: The Role of institutional quality, Journal of International Economics 70, 239-252. • Jones, Jiri, and Frederic S. Mishkin, 2003, Inflation targeting in transition countries: Experience and prospects". NBER Working Paper No. W9667. • Truman, Edwin M., 2003, Inflation Targeting in the World Economy (Book). Institute for International Economics.

10. References Bruno and Easterly (1998) JME Sepehri and Moshir (2004), Int Rev of Applied Economics, Pulley (2003) (Manchester School), Mubarik (1999, Pakistan Review), Doyle or Christopher and Doyle (1998), Gosh & Phillip (1998), Levine and Renault (1993),

11. Paper What? Why? Where? What Extent? (a) learning process! (b) something new! (c) academic (d) central banking (e) policy issue Why Others will cite this paper?

12. Data Does descriptive statistics pass the initial test? Min-Max for all variables. Why static and dynamic is different for Index? What is important for transition? Is life expectancy, primary enrollment important?