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the impact of Monetary and fiscal policy
monetary policy practice
the impact of Monetary and fiscal policy
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INTRODUCTION
Since the 1990s, a large number of industrial countries and a growing number of emerging market and transition economies have adopted inflation targeting as their monetary policy strategy. During the implementation they face many challenges. However, there is no established pattern so countries must learn along the way from one another and more importantly from their own experience.
This paper provides an overview on inflation targeting as a monetary policy strategy, necessary preconditions for its successful implementation, its advantages and disadvantages and issues and challenges that emerging market and transition economies face while defining and implementing this monetary policy strategy.
Inflation targeting as a monetary policy strategy
Macroeconomic policy of any country has several goals such as employment, economic stability, economic development and production growth. Those goals are achieved by appropriate fiscal and monetary policy led by “most important players in financial markets” , Central Banks. Healthy macroeconomic policy means healthy economy which can be achieved through one of three monetary strategies: monetary targeting, inflation targeting and implicit nominal anchor. Central banks are held highly accountable for the conduct of monetary policy and hitting the targets. In other words, those regimes appear to be highly transparent. Furthermore, what is common for these three strategies is that all three of them focus on price stability, which is, for most Central Banks of the world, the main goal of monetary policy. Not so long ago policy makers reintroduced the idea of targeting. They first introduced monetary targeting during the seventies and eighties, and later on in 1989 infla...
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• Mishkin, Frederic S. and Schmidt-Hebbel, K., 2006, “ Does Inflation Targeting Make a Difference?” Central Bank of Chile Working Papers No. 404 available from http://www.bcentral.cl/estudios/documentos-trabajo/pdf/dtbc404.pdf
• Johnson, D., 2002, “The Effect of Inflation Targeting on the Behavior of Expected Inflation: Evidence from an 11 Country Panel,” Journal of Monetary Economics 49, pp.1521-1538;
• Gerlach, S., 1999, “Who targets inflation explicitly?” European Economic Review 43, pp.1257-1277;
• Lin, S. and Ye, H., 2009, “Does inflation targeting make a difference in developing countries?” Journal of Development Economies 89, pp.118-123;
• Cukierman, A., 1996, The Economics of Central Banking, in: H. Wolf (ed.) Contemporary Economic Issues: Macroeconomic and Finance, Basingstoke, UK: Macmillan.
In early 1994, Fernando Henrique Cardoso was selected as minister of finance, his primary objective was to develop a new stabilization plan. The plan named Real Plan and it focused mainly on the causes of inflation in country. Th...
In an economy recently plagued with housing market crashes and financial crisis, we can easily see the vital functions that a monetary policy has on anticipating and preventing instability in our economy. Understanding how monetary policy works and how it’s affected by either rules or discretion is crucial, and all aspects must be taken into account to establish the most effective choice for our economy.
Inflation targeting: This is a type of monetary policy whose primary aim is to keep the inflation at a certain desired range. This is maintained for a period varying from months to years reviewable in a monthly or quarterly basis by a policy committee. The inflation target is achieved through periodic adjustment on the central bank’s interest rates.
This essay will assess research into the impact of globalization on inflation and discuss whether it has weekend the ability of central banks to control the dynamics of inflation. The ability of central banks to control the rates of inflation may be substantially complicated by the increased globalization of the goods markets, factor markets and the financial markets (Woodford, 2007). The ability of national banks to influence the dynamics of inflation through monetary policy may be undermined by globalization. The central bank’s primary goal is to maintain price stability by regulating the level of inflation through monetary policy. Globalization increases trade both within and across countries (Schwerhoff & Sy, 2013). Through communicating their policy intentions regarding the future short-term interest rates, central banks can affect also the current longer-term rates (Tang, 2011). The new consensus (DSGE) Model incorporates four components, the output gap equation, the Phillip’s curve, the exchange rate equation and the Policy Rule (Woodford, 2007). The policy rule incorporates the Taylor rule which stipulates the amount a central bank should change the nominal interest rates in response to changes in inflation, output or other economic conditions. It also incorporates the idea of the inconsistent trinity, (sovereign monetary policy, fixed exchange rate and free capital flow) where only two of these can be possible at any given time.
Nowadays, keeping the inflation and unemployment as low as possible are the two most important goals of the government as well as the Fed. Also, at the same time, the government and the Federal Reserve have to ensure that the country’s GDP increases at average of 3%. This can be achieved through the use of the fiscal and monetary policy. When used in the right manner or mix, these policies can stimulate the economy and slow it down when it heats up. The logic of this can be depicted by the Phillips curve that shows that expansion of wages in growing economies tends to more rapid than normal for a given period of time. A permanent balance between employment and inflation that often results in long-term prosperity can only be realized through implementation of the right policies.
The term Monetary policy refers to the method through which a country’s monetary authority, such as the Federal Reserve or the Bank of England control money supply for the aim of promoting economic stability and growth and is primarily achieved by the targeting of various interest rates. Monetary policy may be either contractionary or expansionary whereby a contractionary policy reduces the money supply, reduces the rate at which money is supplied or sets about an increase in interest rates. Expansionary policies on the other hand increase the supply of money or lower the interest rates. Interest rates may also be referred to as tight if their aim is to reduce inflation; neutral, if their aim is neither inflation reduction nor growth stimulation; or, accommodative, if aimed at stimulating growth. Monetary policies have a great impact on the economic stability of a country and if not well formulated, may lead to economic calamities (Reinhart & Rogoff, 2013). The current monetary policy of the United States Federal Reserve while being accommodative and expansionary so as to stimulate growth after the 2008 recession, will lead to an economic pitfall if maintained in its current state. This paper will examine this current policy, its strengths and weaknesses as well as recommendations that will ensure economic stability.
It widely recognized that the monetary policy within a country should be primarily concerned with the pursuit of price stability. However, it is still not clear how this objective can be achieved most effectively. This debate remains unsettled, but an increasing number of countries have adopted inflation targeting as their monetary policy framework. (Dr E J van der Merwe, 2002) This topic of Inflation targeting is a subject which immediately conjures different perceptions from different people. Many feel that low inflation should be a main aim of monetary policy, while others (such as trade union activists) believe that a higher growth rate to stimulate jobs should be the main concern.
Loungani, Prakash, and Nathan Sheets. "Central bank independence, inflation, and growth in transition economies." Journal of Money, Credit, and Banking (1997): 381-399.
Companies. Retrieved July 4, 2008, from University of Phoenix, MMPBL-501 Web site. University of Phoenix . ( 2008). Economics for Managerial Decision Making
The prospects of inflation targeting in India has been subject to intellectual debate from the past 15 years. The Percy mistry committee (07), The Raghuram Rajan committee (08) also recommended the IT. But it was later on rejected citing absence of financial stability .however after adopting the BASE...
Smaghi, L. (2009, Aprl 28). Conventional And Unconventional Monetary Policy. Speech at the International Centre for Monetary and Banking Studies (ICMB), Geneva. Retrieved from http://www.bis.org/review/r090429e.pdf
Through utilizing inflation targeting, the RBA will usually raise interest rates if inflation appears to be above the target range of 1-3% in hopes of decreasing the inflation rate. The raised interest rates will then decrease the demand for money due to the higher opportunity cost of holding monetary assets.
It is difficult for government to achieve all the macroeconomics objectives at the same time. Conflicts between macroeconomics objectives means a policy irritating aggregate demand may reduce unemployment in the short term but launch a period of higher inflation and exacerbate the current account of the balance of payments which can also dividend into main objectives and additional objectives (N. T. Macdonald,
Inflation is the rate at which the purchasing power of currency is falling, consequently, the general level of prices for goods and services is rising. Central banks endeavor to point of confinement inflation, and maintain a strategic distance from collapse i.e. deflation, with a specific end goal to keep the economy running smoothly.
Monetary policies issued by the bank aim to achieve “price stability conducive to obtaining sustainable growth of the economy.” This is done by managing the exchange rate using a basket-band crawl (BBC) approach. MAS intervenes in both foreign exchange and domestic market operations that are aimed at managing systemic liquidity when necessary, and banks are required