Outline
Does ‘globalisation’ affect monetary policy?
Unconventional monetary policy (UMP) – small open economy perspective
What do we know about deflation?
A few thoughts on the ‘new’ central banking paradigm
How much does increasing globalisation affect monetary policy?
Global economy has become increasingly interconnected
Evidence of a global financial cycle? (H. Rey)
Global pool of liquidity through interconnected financial sector
leads to monetary policy spill-overs
Avenues for shock propagation and amplification are more open
than ever before – in CEE also thru banking system integration
Financial fragility leakages
To what extent has globalisation moderated inflation pressures?
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Great moderation of inflation?
Globalization and increased trade integration have reduced barriers to market access
Globalization has led to the relocation of production → the relative price of tradable goods declines → their fall has contributed to lower overall inflation
More intense global competition prevents firms from raising
prices and puts downward pressures on wages in many sectors;
Broad productivity gains, or
Cyclical conditions?
3
Last 15 years have seen broad productivity gains in EM
Source: The Conference Board.4
..monetary conditions are becoming more influenced by non-dometic
factors..
Globalization may have reduced the strength of the cyclical response of inflation to output fluctuations
prices of many items that are produced or consumed at home are increasingly determined by foreign demand and supply factors rather than local factors.
financial integration allows for larger trade balance deficits or surpluses and, thereby, weakens the relationship between domestic output and demand
International capital flows transmit monetary conditions globally, even under floating exchange-rate regimes
More of an issue for small open economies, than for a few big ones
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UMP – Small Open Economy Perspective
Is it possible to run countercyclical monetary policy in a small open economy with stable exchange rate regime? According to conventional wisdom – NO! But, in real life – YES – financial market imperfections limit
perfect capital mobility, so can CBs, behaviour of economic agents is path dependent...
central banks can widen their space for maneuver with the use of unconventional monetary policy and/or macroprudential measures
What have we learned from the crisis It is absolutely critical to act in time It is impossible to make-up for a delay, but better to act at
any time than not to act at all In order to act in time, one should often try to think out of
the box (reading from history helps)
(Unconventional) Monetary Policy- pre-crisis -
U(M)P in the pre-crisis period CNB – one of those central banks that
acted early to take care about financial stability and external vulnerabilities build-up
use of UMP and macroprudential measures to fight against excessive capital inflows (capital inflow tax, high fx liquidity requirements,tax on credit growth, increasing risk-weights for lending to unhedged borrowers...)
success in moderating banks’ credit growth
success in curbing banks’ foreign indebtness
creation of sizeable f/x liquidity buffers
doubling of banks’ Tier 1 capital
significant, although limited, impact on curbing overall external vulnerabilities
0,000
2,000
4,000
6,000
8,000
10,000
12,000
0,0
10,0
20,0
30,0
40,0
50,0
60,0
XII.2001 XII.2002 XII.2003 XII.2004 XII.2005 XII.2006 XII.2007 XII.2008 XII.2009
mio
EUR
bln
HRK
Regulatory capital and international reserves
Regulatory capital International reserves (rhs) Net usable international reserves (rhs)
Source: HNB
10
12
14
16
18
20
22
2008 2009 2010 2011 2012 2013*
%
Croatia Eurozone CEE
Bank (regulatory) capital adequacy ratio (CAR)
(Unconventional) Monetary Policy- post crisis -
U(M)P in the post-crisis period At the strike of the crisis, critical
objectives were: to preserve confidence (exchange rate
stability) to facilitate refinancing of all domestic
sectors, since foreign markets were effectively temporary closed (LOLR)
huge relaxation of domestic currency and f/x liquidity (approx. 13 percent of GDP)
possible thanks to the pre-crisis creation of buffers
After initial strike, objective turned to facilitate credit activity
creation of structural excess liquidity corporate lending programs to banks
syndicated with HBOR – 2010-14 (the early Croatian version of Funding for Lending)
incorporates risk sharing element corporate lending programme to banks
without HBOR – from November-2013
0
2
4
6
8
0
2
4
6
8
10
12
14
16
18
20
1/0
6
7/0
6
1/0
7
7/0
7
1/0
8
7/0
8
1/0
9
7/0
9
1/1
0
7/1
0
1/1
1
7/1
1
1/1
2
7/1
2
1/1
3
7/1
3
1/1
4
bil
lio
n H
RK
%
Liquidity surplus and overnight interest rate
Liquidity surplus (including overnight deposits with the HNB) - rightOvernight interbank interest rate - left1-year T-bills (HRK) - left
Source: HNB
0
10
20
30
40
50
60
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
%
Reserve requirements and minimum f/c liquidity
Reserve requirementMarginal reserve requirementMinimum foreign currency liquiditySource: HNB
Pre and post crisis
-10,0
0,0
10,0
20,0
30,0
40,0
50,0
XII.2001 XII.2002 XII.2003 XII.2004 XII.2005 XII.2006 XII.2007 XII.2008 XII.2009 XII.2010 XII.2011 XII.2012 XII.2013
Banks' credit to private sector
Banks' credit to private sector, % growth Banks' credit to enterprises, % growth Banks' credit to households, % growth
Marginal reserve requirements
New decision on capital adequacy
HNB's Compulsory treasury bills
HNB lending programmes (incl. HBOR)
HNB lending programme (excl. HBOR)
Source: HNB
HNB's Compulsory treasury bills
Countercyclical monetary policy post crisis - high(est)
cumulative growth of corporate lending...
Changes of loans to enterprises, in % (8/2008 – 3/2014)
Note: EU15 = Finland, Ireland, Sweden and United Kingdom (north), Austria, Belgium, France, Germany and Netherlands,
(continental), Greeece, Italy, Portugal and Spain (south). EU 12 = Estonia, Latvia(north) Czech Republic, Hungary, Poland,
Slovakia and Slovenia(continental), Bulgaria and Romania (south)Source: ECB and national central banks 10
19,8 19,1
-29,4
-54,5
12,1 11,2
-1,8-4,7
5,2
25,8
-2,4 -3,4
-12,8
-36,0
3,2 3,1
-5,5
-30,9 -31,9
-14,7
-26,1
20,5
-0,3
-60
-50
-40
-30
-20
-10
0
10
20
30
40
FIN SWE GBR IRL NLD AUT DEU BEL FRA CRO ITA GRC PRT ESP SVK POL CZE SVN HUN EST LTU BGR ROMChan
ge o
f loa
ns t
o en
terp
rises
, in
% (
8/20
08-3
/201
4)
EU 15south
EU 15continental
EU 12south
EU 12north
EU 12continental
EU 15north
...and the second strongest GDP decline
Real gross domestic product,(GDP change, average 2009-2013)
Note : EU15 = Denmark, Finland, Ireland, Sweden and United Kingdom (north), Austria, Belgium, France, Germany and Netherlands, (continental), Greece, Italy, Portugal and Spain (south). EU 12 = Estonija, Lithuania, Latvia (north), Czech Republic, Hungary, Poland, Slovakia and Slovenia(continental), Bulgaria and Romania (south)
Source:Eurostat11
-1,1 -0,9-0,6
-0,1
1,4
-0,7
0,2 0,3 0,40,7
-5,2
-2,5
-1,5 -1,4 -1,3
-1,9
-0,9
-0,4
1,0
2,7
-0,9
0,0
0,6
-0,4 -0,3
-6
-5
-4
-3
-2
-1
0
1
2
3
IRL FIN DNK GBR SWE NLD FRA BEL AUT DEU GRC CRO ITA PRT ESP SVN HUN CZE SVK POL LVA LTU EST BGR ROM
Rea
l GD
P, 2
009
-20
13, %
ch
ang
e
EU15 north
EU15continental
EU15south
EU12continental
EU12north
EU12south
Broadening of Central Banks’ Mandate – Lessons Based on CNB’s
Pre-Crisis Experience
Taking care about financial stability and external vulnerabilities hardly possible to make clear separation among policy instruments in
relation to goals synergy among various policy tools (monetary / macroprudential /
microprudential) banks’ supervision at the central bank helps
before the crisis CNB was heavily criticized for its measures intrinsic problem – financial stability is difficult to measure, but crises are
evident without crises defending unpopular measures may become increasingly difficult in a way the global financial crisis helped CNB to prove its success on financial
stability front
important to resist pressures and stick to long-term policy goals
however, neither monetary nor macroprudential policy can resolve key problems
CNB’s success in reducing external vulnerabilities was limited only if all policies (fiscal, institutional, structural) play together it will
be possible to create sustainable growth
CNB’s success on financial stability front and in countercyclical monetary policy made other policy makers more lenient to push forward strong structural and fiscal reforms after the strike of the crisis
...current issue - CNB’s main objective is mainly externaly driven..
Inflation decomposition into baseline projection and domestic and external shocks in a small open economy (Croatia)
Strong negative external shocks of prices of food raw materials and oil are primary causes of recent low inflation rates
Unfavourable trends in the external real sector and domestic negative GDP gap contribute to deflationary pressures to a much smaller extent 13
What do we know about deflation in Croatia?
Deflation pressure is coming from a fall of food and energy prices
If the food and energy prices were at their five year average (2008-2013), inflation would have been at 2 per cent in 2014
Inflation diffusion index shows that 20-30 per cent of the prices decline monthly - in line with the average of the last five years
No deflationary expectations in real sector – no indication that consumers are postponing purchases of durable consumer goods due to expectations
Indebtedness and debt service ratio for the household sector are declining in spite of the mild increase of real interest rates
Decline in commodity, primarily energy prices, produces a significant positive terms of trade shock for the Croatian economy
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What do we know about deflation in general?
Not much, too few episodes, almost no recent ones
Historical example of a ‘good’ deflation: deflation associated with broad productivity increases during the classical gold standard and industrial revolution in the late 19th century
Study by Atkenson, A. and Kehoe P.J. (2004) finds that deflation and depression do seem to have been linked only during the 1930s (Great Depression), but in the rest of the data for 17 countries and more than 100 years, there is virtually no evidence of such a link
They find many more periods of deflation with reasonable growth than with depression and many more periods of depression with inflation than with deflation
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Is there any parallel between late 19th c. and early 21st?
All through the late 19 century, deflation co-existed with growth due to:
Rapid productivity growth
Deep workforce pool
Realocation of productive resources away from agriculture during the industrial revolution
Until productivity gains were exhausted and workforce became scarce and inflation and wage pressures reappeared without any outside interventions
Over the last 15 years broad productivity gains in emerging economies transmited globally
World is closed economy – unexploited pools of workforce and potential productivity increases were unlocked over the last 25 years
When that gets depleted, will inflation and wage pressures similarly reappear?
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What do we know about “bad” deflation?
Theory
Declining long-term inflation expectations are indicator of the ‘bad’ deflation
A prolonged period of low inflation rates might destabilise inflation expectations
The monetary policy should response if a temporary shock is spreading through the economy and inducing downward shift in the long-term inflation expectations
More indebted you are, more likely deflation will be ‘bad’ for you
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However, in the monetary union, due to the lack of exchange rate instrument, some deflation is necessary to adjust – ‘internal devaluation’
Debt-deflation paradox?
More indebted you are, more likely you’ll need to deflate in order to increase competitiveness, while, at the same time, you’ll need more inflation to keep debt sustainable
Deflation could be relative, but can you rely on others to inflate as much as you need to have a positive inflation rate (say between 1-2%)?
That’s more of a structural/institutional issue. Therefore, unlikely. 18
Financial stability issue – storm under the calm surface
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New paradigm – CB’s should look after financial stability
Low inflation did not insure financial stability
Predictors of financial crises: lending boom (historicaly good
one), asset prices boom?
Global monetary policy stance was inappropriate, and
supervision was in many cases inadequate
Lesson from the crisis: Imbalances can build up with seemingly
low inflation and neutral output gap calculated by standard
methodology, as asset prices were not included in the
calculation of the output gap20
However, still more questions than answers
How to reconcile financial stability with ‘classic’ monetary policy goals? Who “plays the second fiddle”? (Eg. Bank of England Financial Stability Committee can suspend MPC decisions in Funding for Lending Program)
Monetary policy still mainly concerned with price stability, asset prices not explicitly included, however they get closely monitored
Some important, still open, questions:
how much should central banks worry about the asset price inflation? It seems that CB policies have more direct impact on asset prices than on CPIs?
could unconventional monetary policy do more harm than good by trying to push thru the closed door (structural conditions in the economy that limit productivity/GDP growth)?
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It might have little effect on sustainable GDP growth, while, on the other hand, much more effect on pricing and risk assesment in financial markets. If risks get overly mis-priced, that might create difficult conditions for exit strategy.
Is monetary policy already overstretched?
Could that endanger central bank independence?
Do we properly measure inflation and output gaps?
Is there a case for new monetary policy targets, i.e. ‘path dependent’ ones?
Is it time for some old medicine like capital controls, particularly for small open economies exposed to global monetary cycles?
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So, is there a New Paradigm appearing?
Except when it comes to financial stabilty, which is now widely accepted as a new goal of central banking policies, there are still too many open questions that need answers before one can build a New Paradigm.
Actualy, given all uncertainities, it seems that today’s monetary policy is even more an art than a science, than was the case before.
And, as usual, when it comes to the art – the beauty is in the eye of beholder...
...until we get better evidence 23
Thank you!
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