Monetary policy

João Ayres, Pablo Andrés Neumeyer, Andrew Powell, 19 July 2021

The ‘right’ monetary policy response to COVID-19 has depended on any number of factors for central banks across the world. This column argues that some central banks in Latin American and Caribbean went beyond accommodating the increased demand for liquidity, inducing monetary injections that then returned through excess bank reserves and sterilisation liabilities for those central banks that fixed an interest rate, and through sales of international reserves for those that favoured stable exchange rates. The authors also outline some of the risks confronting central banks for the months ahead.

Dennis Bonam, Andra Isabela Smădu, 18 July 2021

How did past major pandemics affect inflation dynamics? This column estimates the long-run effects of pandemics on trend inflation in Europe using historical data since the 14th century. We find that, following a pandemic event, trend inflation falls steadily below its initial level for nearly a decade. This long-run depressing effect is also observed in major individual European countries – France, Germany, Italy, the Netherlands, and the UK. The authors conclude by discussing why the effects of the COVID-19 pandemic on inflation could play out differently this time around.

Ignazio Angeloni, Daniel Gros, 16 July 2021

The outcome of the long-awaited second review of the ECB’s monetary policy strategy was communicated by the central bank on 8 July 2020. This column argues that the review constitutes a mixed bag. The asymmetry of the inflation target, a long standing source of ambiguity and potential policy mistakes, has been corrected by announcing a symmetric central target at 2%. But major ambiguities remain concerning the width of the tolerance band around 2%, the definition of the relevant price index, the interpretation of the inflation process, and the way monetary policy is prepared to team-up with fiscal authorities to preserve the euro’s stability going forward. All in all, the glass remains half-empty and the water it contains is somewhat muddy. 

Jongrim Ha, M. Ayhan Kose, Franziska Ohnsorge, 14 July 2021

Global inflation has rebounded from last year’s lows faster and sooner than after any previous global recession in the past five decades. This column presents model- and survey-based estimates which suggest that global inflation will rise by about 1-1.4 percentage points this year, pushing it above target in about half of inflation-targeting emerging market and developing economies. This may not be reason for concern provided the increase is temporary and inflation expectations remain well-anchored. However, even if temporary, higher global inflation may complicate the near-term policy choices of economies that still rely on expansionary support measures to ensure a durable recovery. 

Enrique Alberola, Carlos Cantú, Paolo Cavallino, Nikola Mirkov, 12 July 2021

Textbook models predict that a monetary policy tightening should lift the exchange rate. Yet the empirical evidence for emerging market economies fails to support this prediction. This column uses data from Brazil to show that the exchange rate’s response to monetary policy shocks changes with the fiscal regime. A contractionary monetary surprise leads to an appreciation in normal times. By contrast, a depreciation results when fiscal fundamentals are deteriorating and markets worry about debt sustainability. 

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