Monetary policy rules for convergence to the Euro

This paper investigates the applicability of open-economy convergence-consistent instrument rules for monetary policies in the economies undergoing monetary convergence to a common currency area. The proposed policy rule is forward-looking, consistent with a monetary framework based on inflation-targeting containing input variables that are relative to the corresponding variables in the common currency area. Robust forms of the policy rule are tested empirically for three inflation-targeting countries converging to the euro, i.e. the Czech Republic, Poland and Hungary. Empirical tests imply systemic differences in monetary policies among these euro-candidates. The Czech monetary policy seemingly follows the rule prescribed by our model. Both the Czech and the Polish central bank interest rate policies respond predominantly to changes in the inflation gap, while the Hungarian responds mainly to the exchange rate gap. In all three cases, changes in the eurozone short-term interest rates strongly drive adjustments in the central banks’ reference interest rates.     

How flexible are wages in EU accession countries?

The transition to a market economy and increased economic integration have fostered regional disparities in Central and Eastern European countries (CEECs). This paper investigates whether and to what extent wages could act as an equilibrating mechanism in these countries by adjusting to local market conditions. Using regional data for the 1990s, we estimate static and dynamic wage curve models for Bulgaria, Hungary, Poland and Romania. We find empirical evidence indicating that regional average earnings adjusted to local unemployment rates in Bulgaria, Hungary and Poland. This result suggests that in these countries wages could help equilibrate labour markets following demand shocks. In the case of Romania, the unemployment elasticity of pay was not significantly different from zero.     

Fiscal Explanations for Inflation: Any Evidence from Transition Economies?

Recent arguments, motivated partly by the new fiscal theory of price level, suggest that fiscal deficits undermine price stability in transition economies. This paper addresses these claims by examining vector-autoregressive models of inflation for three transition economies (Bulgaria, Romania and Russia). The results indicate that fiscal deficits have increased inflation in Bulgaria and Romania but not in the case of Russia. In Bulgaria and Romania, money aggregates and exchange rate have also been more influential to inflation than fiscal deficits. The analysis based on this method therefore suggests that while fiscal deficits have some influence on inflation, monetary factors mostly determine inflation in these three countries.     

Nonlinearities and Fractional Integration in the US Unemployment Rate*

This paper proposes a model of the US unemployment rate which accounts for both its asymmetry and its long memory. Our approach introduces fractional integration and nonlinearities simultaneously into the same framework, using a Lagrange multiplier procedure with a standard null‐limit distribution. The empirical results suggest that the US unemployment rate can be specified in terms of a fractionally integrated process, which interacts with some nonlinear functions of labour‐demand variables such as real oil prices and real interest rates. We also find evidence of a long‐memory component. Our results are consistent with a hysteresis model with path dependency rather than a non‐accelerating inflation rate of unemployment (NAIRU) model with an underlying unemployment equilibrium rate, thereby giving support to more activist stabilization policies. However, any suitable model should also include business cycle asymmetries, with implications for both forecasting and policy‐making.     

Monetary Targets and the World Economy: A Progress Report

The recent changes in the value of the dollar and the talk of an interest rate ‘war’ demonstrate again that the world finds it difficult to cope with rapid exchange rate movements. In some ways the experience - and the reactions to it - are similar to the events of 1978. As now, the world was in a recession (though on a milder scale) and there were fears that exchange rate problems would obstruct economic recovery. The main difference is that in 1978 it was the strength of the Deutschmark which caused concern whereas this time the problems are associated with the rise in the value of the dollar. In a Briefing Paper in Economic Outlook, February 1978, ‘Monetary Targets and the World Economy’ we suggested that the problem arose from inconsistencies between national monetary policies and exchange rate objectives. In general, countries dislike exchange rate changes - in either direction - and there were problems because countries would not accept the exchange rate consequences of their own or other countries' monetary policies. We estimated the required monetary policies for stable exchange rates and suggested specific national monetary targets for 1978 which would at least move the world economy towards consistent monetary policies. In this Economic Viewpoint we return to those ideas. We consider what happened in 1978 and we also revise the underlying monetary rules. More recent experience suggests that although there has been some progress towards the convergence of monetary policies there will continue to be trend changes in exchange rates. It is also clear that there will be short-term fluctuations around these trends. We believe that greater convergence of monetary policies would be desirable but failing that it is important that countries should avoid abrupt changes in monetary policy. It is also important that countries should become accustomed to exchange rate changes. They should direct monetary policy towards their objectives for inflation and should not be diverted from it by temporary or permanent changes in their exchange rates.     

危机后发达国家的非传统货币政策研究

次贷危机爆发以后,各国纷纷实行非传统的货币政策来刺激经济。自2009年下半年以来,随着一些国家的经济状况开始恢复,人们开始担心通货膨胀的出现,因此研究非传统货币政策何时退出就成为当前各国宏观经济保持稳定的一个重要任务。发达国家实行非传统货币政策的原因在于传统的货币政策传导机制,即从市场基准利率向短期利率和长期利率的传导受阻。因此非传统货币政策实施的目的在于降低短期利率预期和风险溢价,同时提高通胀预期,降低长期实际利率,最终起到刺激实体经济的作用。文章以美国为例,考察了美国金融指标、通胀指标和宏观经济指标,得出结论:传统的货币政策传导机制的恢复还未得到充分的确认。另外,由于欧洲债务危机的出现给全球经济复苏蒙上阴影,因此全面退出非传统货币政策尚不具备条件。但是在全球化时代,寻求大国之间退出策略的合作和协调是十分必要的。     

Exchange rate, inflation and unemployment in East European economies: the case of Poland and Hungary*

The aim of the paper is to model the impact of exchange rate on both inflation and unemployment variables in economies which are characterized by important structural changes, i.e. a transition phase moving from centralized economies towards market economies. This phenomenon, which is common to the East European countries, stressed different effects both for what concerns the behaviour of economic agents and for what concerns fiscal and monetary measures adopted by governments and aiming to keep under control the inflation–unemployment trade off. Time series relationships between these variables are investigated within an econometric model. Economic theory and the available data on the hypothetically relevant variables, along with the consideration of the main facts occurred in the period under study, characterize our information set. It is found that single equation analysis yields inefficient inference relative to the whole system analysis, and important structural changes are detected which reflect possible breaks in the structure of the economic system along with a change in economic policy.     

Implications of ERM2 for Poland's monetary policy

We propose an extension to the inflation targeting regime currently pursued by Poland. It incorporates the exchange rate stability constraints as imposed by the obligatory participation in the ERM2 that Poland needs to satisfy prior to adopting the euro. The modified policy is based on the forward-looking inflation targeting supplemented with the exchange rate stability objective. Its effective implementation depends on the determined long-term equilibrium exchange rate and the observed degree of exchange rate volatility. Both are empirically estimated by employing the Johansen cointegration tests and the threshold generalized autoregressive heteroscedasticity model with the in-mean extension and generalized error distribution (TGARCH-M-GED).     

The Dollar, the Oil Price and Policy Divergence

There is currently a clear divergence of policy between the United States, Japan and Germany. With the US in recession and concern growing over the severity of the slump, interest rates have been cut in a move to revive the economy. In contrast Japan and Germany are both experiencing strong growth and monetary policy remains tight to combat inflation. This divergence was seen most clearly when the Federal Reserve Board lowered its discount rate to 6 per cent on 1 February, the day after the Bundesbank had raised its Lombard rate to 9 per cent. With G7 increasingly concerned about domestic factors, less emphasis is placed upon stable exchange rates and as a result the dollar is at an all-time low. The last two G7 communiqués have stressed ‘stability oriented monetary policies’, an ambiguous phrase which fails to define ‘stability’ either in terms of exchange rates, inflation or growth. Thus both the German and Japanese policy of high interest rates to reduce inflation and low US interest rates aimed at stimulating the economy can be termed as ‘stability oriented’. This analysis focuses on these divergent policy responses in two alternative scenarios to the world forecast we presented last month. The first scenario considers what might happen if the Federal Reserve Board were to stimulate the US economy by further cuts in interest rates, whilst Japanese and German rates were unchanged in the face of inflationary pressures. This case may be relevant if the recent US loosening of monetary policy is not sufficient to encourage growth because of a ‘credit crunch’, so that a more expansionary policy is required by the Fed. As a consequence, policy diverges further and the dollar weakens. The second scenario focuses upon a reduction in inflationary pressures in Japan and Germany brought about by an oil price fall. In this case we assume that US policy is already loose enough to avoid a prolonged recession, but that German and Japanese monetary policy is relaxed as inflationary forces recede. In this case policies converge. Each scenario thus concentrates on one of !he two features which are causing the policy divergence amongst G3 countries: recession in the US, inflation in Germany and Japan.     

The London Business School with Gower Publishing

The package that was announced just as we completed our June forecast has, for the time being, produced a more stable financial position. The exchange rate has stopped falling and by mid-July the Smithsonian index had reached 62, the highest level since March. Short- and long-term interest rates have stopped rising. We still emphasise, however, that control over DCE and the money supply has been achieved artificially through direct controls on the banks. The government has achieved short-run consistency between its fiscal and monetary policy, but in the longer term its fiscal policy is inconsistent with its hopes of keeping inflation in single figures. No incomes policy will succeed unless it is accompanied by policies designed to achieve a consistent exchange rate path. The issue has been given prominence by the recent proposals for a European currency system. In the June Economic Outlook we argued that the maintenance of exchange rate stability with the Deutschmark (unless West Germany can be persuaded to increase the growth of its money supply) would require major cuts in the Budget deficit over the next three years. The same monetary constraints would apply whether we joined a fixed exchange rate system or unilaterally decided to hold the exchange rate. If the government seriously wants to control inflation a reduction in the Budget deficit will be essential.     

Assessing the Powell policy review

To understand both how it controls inflation and how it trades off inflation with its goal of maximum employment, the Federal Reserve System uses a Keynesian framework in which monetary policy moves the unemployment rate relative to a presumed full employment value, termed the NAIRU (non‐accelerating inflation rate of unemployment). Because it does not know the value of the NAIRU, it pursues an expansionary monetary policy until inflation rises. This policy risks reviving the inflationary monetary policy of the 1970s.     

The Costs and Benefits of Cutting Inflation

In recent speeches Treasury Ministers have coined a new slogan. They argue that inflation is not an alternative to high unemployment but a fundamental cause of it. They use this slogan to attack those who suggest that thefight against inflation should be slackened - at least briefly - in order to reduce unemployment. In this Economic e iewpoint we examine the arguments about the relation between inflation and unemployment. We suggest that although inflation may be a cause of unemployment in the long term there is an inescapable short-term choice to be made between reducing unemployment and reducing inflation. We explain why this choice arises and also discuss the longer-term effects of counter-inflationary policies. Finally we examine the record of this Government's policies so far.     

Product Market Competition,Monetary Policy Regimes and Inflation Dynamics: Evidence from a Panel of OECD Countries

We empirically analyze the impact of product market competition on the responsiveness of inflation to macroeconomic imbalances. If competition is high the response of inflation to lagged inflation, unemployment and import prices is reduced, while inflation is more responsive to changes in productivity growth in countries in which competition is above the OECD average. Given the (‘good luck’) macroeconomic trajectories of the 1990s–2000s, the structural reforms that made goods markets more competitive improved the ability of OECD economies to smooth (dis)inflationary shocks, while changes in the monetary policy framework had a modest role in taming inflation during the Great Moderation.     

An Incomes Policy for the Professions: the Dutch Experience

Abstract . In 1951 the United States began moving toward an incomes policy, an attempt to end postwar wage and price inflation by linking changes in these prices to gains in productivity. Other countries later followed suit; some countries had already adopted wage and price control policies. The Netherlands moved toward an incomes policy immediately after World War II. Initially, the Dutch program involved wages only, but in the 1970s it became an accepted principle that private professional income should be comparable with the salaries of government officials and civil servants with comparable training and responsibilities. In the Netherlands (as in the United States and, before medicine was socialized, the United Kingdom) health professionals operate on a fee-for service basis and their incomes escalated as a result of both inflation and monopoly power. So they were subjected to the incomes policy. The policy's effectiveness in curbing income escalation cannot be determined with certainty—reliable data are lacking. However, the evidence indicates that the policy failed to achieve its original purpose.     

通胀水平和汇率波动对汇率传递影响的实证研究

汇率传递效应在不同国家呈现出不同的效果和结论,而通胀水平和汇率波动程度也在一定程度上影响着汇率传递效应的发挥。文中根据不同的汇率波动幅度和不同的通胀水平将全样本分别分为两个子样本,建立VAR模型,利用累计脉冲响应函数来计算相应的汇率传递率并进行比较分析。结果表明,高通胀环境以及扩大的汇率波动程度都可以提高汇率传递率,使得在此情况下利用汇率政策来有效治理国内通胀成为可能。     

From inflation targeting to the euro-peg: A model of monetary convergence for transition economies

This study proposes a sequence of monetary convergence to the eurozone, based on autonomous monetary policy rather than on an early application of the euro-peg. The gradual adjustment process begins with a relatively strict variant of inflation targeting, followed by flexible inflation targeting, and ends with exchange rate targeting. A model outlining the optimal mode of policy adjustment is presented. The analysis warns against a premature peg to the euro, which may instigate real currency appreciation, large capital inflows and their costly sterilization. The euro-peg can be introduced only when the candidates’ monetary authorities reach a certain degree of “foundational credibility”. The model of monetary convergence is followed by the empirical assessment of inflation targeting in the Czech Republic and Poland.     

Europe Through the Crisis: Discretionary Policy Changes and Automatic Stabilizers

Tax-benefit policies affect changes in household incomes through two main channels: discretionary policy changes and automatic stabilizers. We study their role in the EU countries in 2007–14 using an extended decomposition approach. Our results show that the two policy actions often reduced rather than increased inequality of net incomes, and so helped offset the inequality-increasing impact of growing disparities in gross market incomes. While inequality reductions were achieved mainly through benefits using both routes, policy changes to and the automatic stabilization response of taxes and contributions raised inequality in some countries and lowered it in others.     

Structural evolution of the postwar U.S. economy

We consider a time-varying parameter vector autoregressive model with stochastic volatility and mixture innovations to study the empirical relevance of the Lucas critique for the postwar U.S. economy. The model allows blocks of parameters to change at endogenously estimated points of time. Contrary to the Lucas critique, there are large changes at certain points of time in the parameters associated with monetary policy that do not correspond to changes in “reduced-form” parameters for inflation or the unemployment rate. However, the structure of the U.S. economy has evolved considerably over the postwar period, with an apparent reduction in the late 1980s in the impact of monetary policy shocks on inflation, though not on the unemployment rate. Related, we find changes in the Phillips curve tradeoff between inflation and cyclical unemployment (measured as the deviation from the time-varying steady-state unemployment rate implied by the model) in the 1970s and especially since the mid-1990s.     

Forecasting the Real Exchange Rate

This brief examines the historical relationship between exchange rates and relative inflation rates for a group of major industrial countries. It establishes the concept of the ‘real exchange rate’ and the ‘productivity-adjusted real exchange rate’ (PARE) as essential in understanding these relationships and projecting them into the future. It puts the discussion into the context of company decision making, as one important factor in the rate of return likely to accrue from different methods of supplying an overseas market. Differences in productivity between countries explain the divergences in prices of ‘non-traded goods’. To give a simple example, a haircut costs much more in New York than in Madrid since high US wages reflect high productivity which does not apply in many parts of the service sector. These differences rule out the acceptance of the over simple ‘purchasing power parity’ approach which assumes that exchange rates will settle at a point where all prices (in terms of a common currency) are the same everywhere, or move together. Even after account has been taken of differences in productivity growth, productivity-adjusted real exchange rates (PARE) - though reasonably stable - can still show some deviations, or ‘blips’. The ‘blip’ may occur because of rapid changes in the actual exchange rate or in domestic prices, in which case it is likely to prove temporary and the PARE rate will tend to adjust back to its normal level. But it may come from major structural changes, in which case PARE will be altered permanently within definable limits. A way of recognising the different categories of ‘blip’ is suggested in the brief. The PARE framework is then used to provide a guide to UK businesses who are concerned to calculate the future sterling value of foreign currency sales or, more generally, to estimate their competitiveness in supplying specific export markets. (The method used would apply equally well to other countries.) This is done by showing step-by-step the forecasting procedure to compute sterling's effective exchange rate to 1981 on assumptions concerning respective rates of inflation, monetary policy and the impact of North Sea oil. The computation shows that a sustained period of exchange rate stability is possible for the UK, even if UK inflation rates remain significantly above the world level for the next two years.     

Economic Viewpoint

The search for a policy device which will yield the benefits of monetary discipline without the pain is as old as it is fruitless, and the central message of this Economic Viewpoint is that going into the EMS will not provide a magic answer to our problems. However we believe that if we go into the EMS at today's rate, and pursue monetary policies consistent with maintaining that rate, the authorities' target of 3 per cent inflation by 1988 is well within reach… Our analysis of the experience of other countries, inside and outside the EMS, over the floating rate period suggests that membership of the EMS should also reduce exchange rate fluctuations and help to create a more stable environment for business planning. However, sterling's vulnerability to oil-related fluctuations cannot be eliminated just by joining the EMS. We therefore suggest that an oil bond, which capitalises the value of our North Sea assets, is created and sold to our EMS partners, thus equalising the exposure to fluctuations in oil prices and removing one major cause of exchange rate instability.