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Monetary Policy in East Asia: Does Targeting Inflation Require ‘Inflation Targeting’?

Monetary Policy in East Asia: Does Targeting Inflation Require ‘Inflation Targeting’?. Hans Genberg Professor, Graduate Institute of International Studies, Geneva Research Fellow, HKIMR. Outline. Inflation and monetary policy in East Asia:‘If it isn’t broken, don’t fix it’

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Monetary Policy in East Asia: Does Targeting Inflation Require ‘Inflation Targeting’?

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  1. Monetary Policy in East Asia: Does Targeting Inflation Require ‘Inflation Targeting’? Hans Genberg Professor, Graduate Institute of International Studies, Geneva Research Fellow, HKIMR

  2. Outline • Inflation and monetary policy in East Asia:‘If it isn’t broken, don’t fix it’ • Inflation targeting must not be a one-size-fit-all strategy • Target inflation, yes - ‘inflation targeting’, maybe • Some suggestions for research

  3. East Asia does not have an ‘inflation problem’

  4. Is there a need to change strategy? • Fear of pegging • What are the objectives of monetary policy • Need for a nominal anchor

  5. What will countries do? • New Zealand and Australia - No, but there is some talk of a monetary union • Hong Kong - A basket peg? • Korea and Thailand - have adopted inflation targeting. How will it be implemented? • Malaysia and Singapore - exchange-rate based strategies • Philippines - inflation targeting as well?

  6. Inflation Targeting • Fundamentally about the objectives of monetary policy and • How to achieve these objectives • Countries differ - the implementation of inflation targeting in industrialized countries does not necessarily fit elsewhere

  7. Targeting inflation vs. Inflation Targeting • The need for a nominal anchor • Monetary policy can not do it alone • Inflation targeting can not mean targeting only inflation • Implementation must be country specific

  8. Alternative nominal anchors • The exchange rate • Monetary or credit aggregates • An inflation target

  9. The importance of policy consistency • Large fiscal imbalances complicate inflation targeting • Deficit financing • Changes in the equilibrium real interest rate • Agreement of what monetary policy can and cannot accomplish • Central Bank independence is not enough • ‘The government giveth and the government taketh away’

  10. Objectives of monetary policy • Strict inflation targeting (‘inflation nutters’) • Inflation – to provide a nominal anchor • Flexible inflation targeting (inflation targeting does not mean targeting only inflation) • Inflation • Output variability • What about the exchange rate?

  11. The exchange rate among the targets? • Exchange-rate volatility and trade • Theory (ambiguous but presumption that higher uncertainty would reduce trade). • Empirical evidence • Time-series evidence does not show much effect • Recent cross-section evidence finds stronger relationship • Trade promotes welfare through increased incomes and growth

  12. Implementation must be country specific • The choice of goals • The choice of intermediate target • What should be the operating target? • Inflation reports, communication with the public, central bank independence and all that

  13. Some important areas for research • Fixed rules are relatively easy to carry out • Targeting inflation implies more discretion and responsibility for the central bank • This requires more knowledge

  14. The transmission mechanism • The central bank must choose an operating procedure that allows it to control inflation while at the same time getting as close as possible to other subsidiary goals • The transmission mechanism of monetary policy defines the policy strategy

  15. Alternative transmission mechanisms ‘Noise’ Inflation Exchange rate Interest rate Output gap ? Monetary policy instrument

  16. Alternative transmission mechanisms ‘Noise’ Inflation Interest rate Exchange rate Output gap ? Monetary policy instrument

  17. Alternative transmission mechanisms ‘Noise’ Inflation Exchange rate Monetary policy instrument ? Interest rate Output gap ‘Noise’

  18. Should the interest rate or the exchange rate be the residual? • What constitutes a neutral monetary policy? • Vulnerability of the economy to interest rate vs exchange rate volatility • Sources of chocks and nature of financial relationships in the economy

  19. Is there a need for international policy co-ordination? • Independent inflation targeting means greater exchange rate volatility • The risk of competitive depreciations/appreciations

  20. Three parting reminders • Inflation targeting is about goals of monetary policy • It does not imply that there is only one goal • Implementation of monetary policy has to be country specific • IT is consistent with many different approaches • Knowledge of the transmission of monetary policy will become more important

  21. Your comments are welcome genberg@hei.unige.ch

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