View
77
Download
0
Category
Preview:
Citation preview
The Objective and Formulation of Monetary Policy in MalaysiaAnas Faizal Aning & Rubin Sivabalan Monetary Assessment & Strategy Department 6 July 2010 Auditorium, Bank Negara Malaysia 2.30-4.30pm
DISCLAIMER: Views expressed in this presentation are those of the author and do not necessarily represent those of BNM nor are they necessarily 1 Presentation to TAR College, July2010 endorsed by BNM.
Presentation outlineMonetary Policy and Macroeconomic objectivesThe importance of price stability
The role of monetary policy Monetary policy framework in Malaysia
Presentation to TAR College, July2010
2
What is the objective of policymakers?
The ultimate objective of all public policies is to improve the living standards (welfare) of its nation
Presentation to TAR College, July2010
3
What is the objective of policymakers?To improve the standard of living, one of the public policy objectives is to promote robust and sustainable economic growth
GDP (or GNI) is a crude proxy for measuring the standard of living, i.e.
Y = C + I + G + (X-M)
Presentation to TAR College, July2010
4
What is macroeconomic stability?INTERNAL BalanceInflation is low and predictable Fiscal policy is stable and sustainable
EXTERNAL BalanceBOP situation is perceived as viable Real ER is competitive and predictable
Stanley Fischer (1993)
Presentation to TAR College, July2010
5
How does price stability contribute to sustainable growth?
Facilitates decision-making
Promote efficient allocation of resources Price stability Reduces distortionary effects on the tax system Prices remain an effective signal for demand & supply Better conditions for growth
Reduces the cost of hedging
Presentation to TAR College, July2010
6
Other costs of Inflation : What you inevitably face when prices increaseThe erosion of value of money & living standards Redistribute income from savers to borrowers if real interest rate is negative Shoe leather and menu costs Inflation unnecessarily pushes households into higher tax brackets Inflation encourages households to invest for speculative purposes Higher domestic inflation relative to abroad, leads to loss of international competitiveness. Uncertainty of future prices may discourage investment and saving. High inflation may lead to shortages of goods if consumers begin hoarding out of concern that prices will increase in the future.
Presentation to TAR College, July2010
7
Inflation increases the cost of livingCost of Breakfast (1956 - 2005)300
Nasi Lemak250 200Sen
Teh Tarik
7% per year
90
15070 150
100 503 30 40 40 50 45
60 55 90 75 60 20 30 15
120
10
0
5
56-60
61-65
66-70
71-75
76-80
81-85
86-90
91-95
96-00
01-05.
Presentation to TAR College, July2010
8
Inflation reduces real purchasing power
Presentation to TAR College, July2010
9
Higher inflation associated with lower growthReal GDP vs. Inflation
Beyond a certain threshold (kink), inflation is really harmful to growth Kink; 1-3% for industrial countries, 7-11% for emerging marketsKhan and Senhadji (2001)
Presentation to TAR College, July2010
10
Structural policies for long-term objective, while counter-cyclical policies for medium-term sustainabilityMacroeconomic Policy Structural policies Types of Policies Purpose Desired Outcome Increase potential output
Industrial policy, Labour policy, Education policy, Banking policy
Productivity, Efficiency, Competitiveness, Flexibility
Counter-cyclical Monetary policy policies Fiscal policy
Contain risks of recessions (deflation) and high inflation
Stable prices with sustainable pace of economic growth
Presentation to TAR College, July2010
11
Monetary policy comprise of actions by a central bank to influence the availability and cost of money and credit to help promoting national economic goalsThe Federal Reserve Board
Presentation to TAR College, July2010
12
What is the objective of monetary policy?Hence, the role of monetary policy is to smooth out the short- to medium term cyclical fluctuations in the economy
GDP
Actual Potential output Time
Cansmooth out short-term fluctuationsInflation and wages
Cannot (directly)influence longrun potential growth of the economy
Time
Presentation to TAR College, July2010
13
Bank Negara Malaysia Act 20095. (1) The principle objects of the bank shall be to promote monetary stability and financial stability conducive to the sustainable growth of the Malaysian Economy
5.(2) The primary functions of the Bank are as follows:(a) to formulate and conduct monetary policy in Malaysia
22.(1) In promoting monetary stability, the bank shall pursue a monetary policy which serves the interests of the country with the primary objective of maintaining price stability giving due regard to the developments in the economy.Presentation to TAR College, July2010 14
Operational Autonomy: Independence within the Government BNM enjoys significant degree of independence in its operations The independence mainly stem from the Governments confidence in BNMs ability to carry out its duties Minister of Finance Minister of Finance II
Deputy Minister of Finance 1
Deputy Minister of Finance 2
Secretary General of the Treasury
Bank Negara Malaysia
Treasury
Other agencies, e.g. Securities Commission, Inland Revenue Board, Khazanah Nasional Bhd15
Presentation to TAR College, July2010
Framework has evolved in line with the changing financial and economic environmentMonetary Targeting Interest Rate Targeting Interest Rate Targeting with Fixed ER Interest Rate Targeting with Floating ER
Narrow money M1 up to 1970s: Broad money M2 up to early 1980s M3 up to early 1990s
Mid-1990s to Sept 1998 Base Lending Rate (BLR) framework
Sept 1998 July 2005 ER pegged to the US$ at RM3.80/US$ BLR framework (BLR linked to Intervention Rate) Capital controls
July 2005 present New interest rate framework using the Overnight Policy Rate (OPR) to signal MP stance Gradual liberalisation of capital controls
Presentation to TAR College, July2010
16
BNMs current MP framework
Operating Target
Intermediate Target No specific intermediate target
Ultimate Objective Achieving sustainable growth with price stability
Instruments Direct borrowing & lending Issuance of BNM bills and notes OMO SRR Public sector deposits
Average Overnight Interbank Rate (AOIR) OPR is target of AOIR
Presentation to TAR College, July2010
17
The instrument that is under the control of BNM is the Overnight Policy Rate
Bank Negara Malaysia
CollateralCollaterals Money
Eligible Financial Institutions
Presentation to TAR College, July2010
18
The important link between the policy, wholesale and retail interest ratesSaversDeposi t rates
SaversDeposi t rates
Bank ALending rates
Inter-bank rates
Bank BLending rates
Borrowers
O P R
Borrowers
Bank Negara MalaysiaOPR = Overnight Policy RatePresentation to TAR College, July2010 19
Liquidity operations steers the operating target (avg o/n interbank rate) close to the policy rate (OPR)Average Overnight Interbank Rate%
4.0Ceiling rate (OPR +25bps) of the corridor for the OPR
3.6
3.2
Floor rate (OPR -25 bps) of the corridor for the OPR
OPR 25 bps: 26 Apr 06 2.8 OPR 25 bps: 22 Feb 06 2.4 OPR 30 bps: 30 Nov 05 2.0 OPR 75 bps: 21 Jan 09 OPR 50 bps: 24 Feb 09 1.6May-05 May-06 May-07 May-08 N ov-05 N ov-06 N ov-07 N ov-08 Mar-06 Mar-07 Mar-08 Sep-05 Sep-06 Sep-07 Sep-08 Mar-09 Jul-05 Jul-06 Jul-07 Jan-06 Jan-07 Jan-08 Jul-08 Jan-09
OPR 25 bps: 24 Nov 08
Presentation to TAR College, July2010
20
OPR and Overnight Interbank RatesOvernight IB OPR Floor Ceiling7.50 7.00BLR
BLR and ALRALR Weighted ALR OPR
4
5.0 4.5 4.0
3.56.50
3.5 3.0 2.5
3
OPR: 2.50 OIB: 2.466.00 5.50 5.00
2.5
2.0 1.5 1.0
24.50
0.5Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Sep-05 Sep-06 Sep-07 Sep-08 Sep-09 Mar-10
Mar-05
Mar-06
Mar-07
Mar-08
Mar-09
Sep-05
Sep-06
Sep-07
Sep-08
Sep-09
Mar-10
1.5
4.00
0.0
Presentation to TAR College, July2010
21
Central Bank role in influencing the price of short-term creditRetail market Wages & Profits
Borrowings & Deposits
Deposits
Central banks
Financial InstitutionsCollaterals
Households & Businesses
Economic activity & inflation
Borrowings
Consumption & Investment
Presentation to TAR College, July2010
22
What is monetary transmission mechanism?
The process in which economic agents react to MP actions undertaken and how their subsequent actions affect the economy in terms of aggregate demand as well as the price level
Presentation to TAR College, July2010
23
Monetary policy transmission mechanismMP works with long and variable lagsInterest rate channelWholesale rates, retail rates
MP actions
Credit channel
Domesti c Demand C+I +G Net External Demand X-M
DomesticAggregate inflationary Demand pressureChanges in the output gap
OPR
INFLATION
Asset price channelHouse prices, stock prices
Expectation channelMkt expectn of int rate, yields
Exchange rate channelExchange rates
Import prices
1 yearPresentation to TAR College, July2010
6 months to year 6 months 11year24
When BNM wants to Stimulate the EconomyEconomic Growth Below Potential
Interest Rates
Inflation Very Low
O P R
Loans
Economic Activity & inflation
Balancing growth and inflation
MP actions
Financial sector
Household & businesses25
Presentation to TAR College, July2010
Monetary policy decision-making process at Bank NegaraSurveillance and Research Work by Staff Monetary Policy Working Group Technical Discussions on recent economic, monetary and financial developments in the global and domestic economy Technical discussions on research and analysis
Monetary Policy Committee Members: Governor, Deputy Governors, Assistant Governors Discussions on recent economic, monetary and financial developments in the global and domestic economy Discussion on policy relevant research and other topical issues Deliberation on monetary policy stance Drafting of the Monetary Policy Statement
Presentation to TAR College, July2010
26
Illustration of MTM when Malaysia increased OPR in 2005
Presentation to TAR College, July2010
27
Illustration of MTM when Malaysia increased OPR in 2005
OPR hike
OPR hike
OPR hike
Presentation to TAR College, July2010
28
What happens during crisis times?Can conventional monetary policy help? In a crisis situation, interest rate cuts are not sufficient Complementary measures are introduced to reach specific sectors of the economy Unconventional measures, such as quantitative easing, if monetary transmission is not wellfunctioning QE is a last policy option QE is an attempt to restore or bypass weakened key transmission channels.
Presentation to TAR College, July2010
29
Can MP prevent financial imbalances?
Savers
Risk of financial imbalances in maintaining policy rate for too low and too long
Borrowers
Search for higher yields Disincentive to save Shift into higher risk investments Build-up of asset prices
Encourage excessive risk-taking behaviour Unhealthy build-up in leverages Undue exposure to interest rate risk
MP is effective as a pre-emptive toolPresentation to TAR College, July2010 30
Recognizing limits of MPSubstantial time lags in transmitting monetary impulses to final objectives Limited knowledge of the monetary transmission mechanism (MTM) MP is a blunt instrument Ineffective against supply shocks Ineffective when asset prices are spiraling
Presentation to TAR College, July2010
31
Constraints in the conduct of monetary policy in a small open economyMonetary Policy Independence
Free Capital Flows
Exchange Rate Stability
Global capital flows are distorting financial markets in ways that make it difficult to judge the appropriate stance of monetary policy
Presentation to TAR College, July2010
32
Greater emphasis on enhancing communicationsSustainable growth with price stability
Influence behaviors of economic agents & economic activity in the desired direction
Enhance predictability of interest rates Align financial market players' expectations about the future course of MP more closely with BNMs own plans & projections Anchor economic agents' long-term expectations of low inflation
Press Releases Press Releases on MPC on MPC Decisions Decisions
Advance Schedule of Advance Schedule of MPC Meetings and MPC Meetings and Announcements Announcements
Outlook Chapter Outlook Chapter in Annual in Annual Report Report
Governors Governors speeches & speeches & interviews interviews33
Presentation to TAR College, July2010
Communication: Monetary Policy Statement
Decision Regular assessment of outlook and economic conditions Rationale for decision
Presentation to TAR College, July2010
34
Recap and summaryPrimary objective of MP is to maintain price stability with sustainable economic growth There is a need to recognise the limit of MP Transmission mechanism of MP works with long and variable lags Surveillance and research are key to MP decision making Financial stability is an important precondition for the effectiveness of monetary policy Policy decisions need to be considered in a holistic mannerPresentation to TAR College, July2010 35
End of Presentation
Presentation to TAR College, July2010
36
Recommended