The document summarizes a presentation on monetary policies and financial stability given by Prof. Dr. Stefan Jungblut. It discusses different monetary policy frameworks including monetary aggregate targeting, exchange rate targeting, and inflation targeting. Inflation targeting is explained in more detail covering its theoretical approach, framework, economic effects, and drawbacks. Flexible inflation targeting is presented as an alternative. The relationship between monetary policy and financial stability is also examined, highlighting lessons from the recent financial crisis.

1. Prof. Dr. Stefan
Jungblut
Master´s thesis defense in Business Administration
Monetary Policies and Financial Stability:
Recent Development and Lessons From
The Current Financial Crisis
Faculty of Business Administration and Economics
Department of Economics
Prof. Dr. Stefan Jungblut
Sherif Elkoumy
20.03.2013

2. Prof. Dr. Stefan
Jungblut
 Introduction
• Introduction
• Monetary
 Monetary policy theory – Overview
policy
theory
 Types of monetary policies
• Types of
monetary  Monetary-aggregate Targeting
policies
• Inflation  Exchange-rate Targeting
Targeting
• Monetary
 Inflation Targeting
Policies and
Financial  Flexible Inflation Targeting
stability
• Conclusion  Montary policies and Finacnial stability
 Conclusion
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3. Prof. Dr. Stefan
Jungblut
 The monetary policies are the central tool of macroeconomic
• Introduction stabilization.
• Monetary
policy theory
 Central banks in developed and developing countries have
• Types of made great steps in the conduct of monetary policies.
monetary
policies  Inflation rates have been decreased to levels that are consistent
• Inflation with price stability.
Targeting
• Monetary
 Once price stability has been attained, growth rates of the
Policies and
Financial aggregate economy have been high.
stability
 The thesis looks at the recent development of monetary policies
• Conclusion
by studying different monetary policies that allow monetary
policy to focus on domestic consideration.
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4. Prof. Dr. Stefan
Jungblut
 Definition
• Introduction  The role of a nominal anchor
• Monetary
policy
 Basic principles of monetary policy
theory
 Price stability
• Types of
monetary  Avoiding time inconsistency
policies
 Alignment of fiscal policy with monetary policy
• Inflation
Targeting
 Forward looking policy
• Monetary
Policies and  Accountability
Financial
stability  Central bank independency
• Conclusion  Central bank accountability
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5. Prof. Dr. Stefan
Jungblut
 Definition
• Introduction
- A process by which the monetary authority controls and
• Monetary
policy monitors the money supply.
theory
- It can be either expansionary or contractionary .
• Types of
monetary
policies
 The role of a nominal anchor
• Inflation - A restriction on the value of domestic money. A single
Targeting
• Monetary
variable central bank use to peg down expectations of
Policies and
Financial private agents about the nominal price level.
stability
• Conclusion
- Two types of nominal anchor
> quantity-based nominal anchor
> price-based nominal anchor
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6. Prof. Dr. Stefan
Jungblut
 Basic principles of monetary policy
• Introduction
 Price stability
• Monetary
policy - Low and stable inflation rate provides considerable benefits to
theory
the economy.
• Types of
monetary  Avoiding time inconsistency
policies
• Inflation
- Follow short-term objectives results in poor long-term outcomes.
Targeting
 Alignment of fiscal policy with monetary policy
• Monetary
Policies and - Irresponsible fiscal policy affects on price stability.
Financial
stability  Forward looking policy
• Conclusion
- To metigate long lags from monetary policy.
 Accountability
- Actions of the government should be publicly monitored.
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7. Prof. Dr. Stefan
Jungblut
 Central Bank Independence
• Introduction
- The degree of independency affects on the rate of money
• Monetary
policy expansion and credit. High levels of independence with a
theory
• Types of clear mandate for the bank are important to assure price
monetary
policies stability and a better macroeconomic performance.
• Inflation
Targeting  Central Bank Accountability
• Monetary - Central bank should be subject to government and public
Policies and
Financial
stability supervision. Central banks are required to communicate
• Conclusion obviously their monetary policy strategy to illustrate their
targets and goals and how they plan to achieve them.
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8. Prof. Dr. Stefan
Jungblut
 Monetary-aggregate Targeting
• Introduction
• Monetary
 Theoretical framework
policy theory
• Types of
 Advantages and disadvantages
monetary
policies
• Inflation
Targeting
 Exchange-rate Targeting
• Monetary
Policies and
Financial
 Theoretical framework
stability
• Conclusion
 Advantages and disadvantages
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9. Prof. Dr. Stefan
Jungblut
 Monetary-aggregate Targeting
• Introduction
 Theoretical framework
• Monetary
policy theory The strategy includes three main elements:
• Types of 1. Depending on information delivered by a monetary-
monetary
policies aggregate to manage monetary policy.
• Inflation
Targeting 2. Announcement of targets for monetary-aggregates.
• Monetary 3. Accountability mechanism to exclude large and systematic
Policies and
Financial deviations from monetary targets.
stability
• Conclusion
The strategy focus mainly on the growth of a chosen
monetary-aggregate.
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10. Prof. Dr. Stefan
Jungblut
 Monetary-aggregate Targeting
• Introduction
 Advantages and disadvantages
• Monetary
policy theory 1. Authorities reacts quickly to shocks in the domestic
• Types of economy.
monetary
policies 2. Monetary targeting generates instantaneous signals about
• Inflation
Targeting
the status of the monetary policy.
• Monetary 3. A solid relationship between the goal and the target
Policies and
Financial variable must be existed. If this relationship is not
stability
available between income level, price level and the velocity
• Conclusion
of money, monetary targets will not be able to convoy
clear signals about the stance of the monetary policy.
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11. Prof. Dr. Stefan
Jungblut
 Exchange-rate Targeting
• Introduction
 Theoretical framework
• Monetary
policy theory - The central bank attempts to ensure nominal exchange rate
• Types of stability against the currency of a so-called anchor country via
monetary
policies interest rate changes and direct exchange interventions
• Inflation
Targeting
thereby importing price stability.
• Monetary - An adequate level of international reserves is required.
Policies and
Financial - An appropriate economic policy that ensures a low level of
stability
inflation differential against the anchor country.
• Conclusion
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12. Prof. Dr. Stefan
Jungblut
 Exchange-rate Targeting
• Introduction
 Advantages and disadvantages
• Monetary
policy theory 1. The framework fixes inflation rate for internationally
• Types of traded goods, and thus directly takes part to keep inflation
monetary
policies under control.
• Inflation
Targeting
2. It anchors inflation expectation by providing an automatic
• Monetary rule for the conduct of monetary policy.
Policies and
Financial 3. It avoids the time-inconsistency problem
stability
4. Exchange rate targeting hinders central banks from
• Conclusion
establishing an independent monetary policy.
5. Exchange rate targeting is probably to stimulate financial
fragility in emerging markets countries.
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13. Prof. Dr. Stefan
Jungblut
 Theoretical approach
• Introduction  Inflation targeting framework
• Monetary
policy theory
 Assignment of the target
• Types of  Interaction with other policy
monetary
policies  Definition of target
• Inflation  Economic effects of inflation targeting
Targeting
• Monetary
 Drawbacks
Policies and
Financial  Flexible inflation targeting
stability
• Conclusion
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14. Prof. Dr. Stefan
Jungblut
- A practical response to the downfall of the other monetary
• Introduction policy strategies. Inflation targeting is a credible nominal
• Monetary
policy theory
anchor for inflation expectations.
• Types of
monetary
policies  Theoretical approach
• Inflation “..a framework for monetary policy characterized by the public
Targeting
• Monetary
announcement of official target ranges over one or more time
Policies and
Financial horizons; low and stable inflation are monetary policy´s primary
stability
long-run goal; vigorous efforts to communicate with the public
• Conclusion
about the plans and objectives of the monetary authorities;
mechanisms that strengthen the central bank´s accountability for
attaining those objectives.”
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15. Prof. Dr. Stefan
Jungblut
 Inflation targeting framework
• Introduction
 Assignment of the target
• Monetary
policy theory  Interaction with other policy
• Types of
monetary  Definition of target
policies
• Horizon of the target
• Inflation
Targeting
• Choice of price index
• Monetary
Policies and • Width of the target band
Financial
stability
• Accountability
• Conclusion
• Inflation forecasts
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16. Prof. Dr. Stefan
Jungblut
 Inflation targeting framework
• Introduction
 Assignment of the target
• Monetary
policy theory • Who assigns the inflation target – Central bank or Government.
• Types of  Interaction with other policies
monetary
policies • Full employment (in short-run, a tradeoff between the two
• Inflation objectives may be occurred, in the long-run, achieving the target
Targeting
is the best action to full employment objective).
• Monetary
Policies and • Financial stability should be compatible with the inflation
Financial
stability targeting framework.
• Conclusion • Fiscal policy objectives. Monetary policy requires considering the
impact of fiscal policy on the outlook for inflation. Similarly, fiscal
policy requires supporting the inflation target.
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17. Prof. Dr. Stefan
Jungblut
 Inflation targeting framework
• Introduction
 Definition of target
• Monetary
policy theory • Horizon of the target (it depends on the inflation rate at
• Types of the time of setting inflation target).
monetary
policies • Level of the target (theoretically, zero inflation is equal to
• Inflation price stability, practically, having inflation target above zero
Targeting
is preferred).
• Monetary
Policies and • Choice of price index (vary due to the different methods
Financial
stability in calculating the CPI and the relative sensitivity of the CPI
• Conclusion inflation rate to supply shocks).
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18. Prof. Dr. Stefan
Jungblut
 Inflation targeting framework
• Introduction
 Definition of target
• Monetary
policy theory • Width of the target band (should it be a numerical
• Types of number or a band?).
monetary
policies • Accountability (increased accountability of inflation
• Inflation targeting allows monetary authority to monitor and improve
Targeting
the understanding of expectations).
• Monetary
Policies and • Inflation forecasts (due to its forward-looking nature,
Financial
stability inflation targeting dynamically uses forecast; therefore, the
• Conclusion central bank´s forecasts of inflation are critical).
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19. Prof. Dr. Stefan
Jungblut
 Economic effects of inflation targeting
• Introduction • Inflation targeting has remained within the targeted range or close
• Monetary to the target rate.
policy theory
• Inflation targeting has been successful in controlling inflation.
• Types of
monetary • Inflation targeting can promote growth and does not lead to
policies
increased output fluctuations.
• Inflation
Targeting • Inflation targeting increases accountability which helps
• Monetary ameliorates the time-inconsistency problem.
Policies and
Financial • Increased transparency and accountability under inflation
stability
targeting helps promote central bank independence.
• Conclusion
• Inflation targeting can help build credibility and anchor inflation
expectations more rapidly and durably.
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20. Prof. Dr. Stefan
Jungblut
 Economic effects of inflation targeting
• Introduction • Inflation targeting grants more flexibility.
• Monetary • Inflation targeting includes a lower economic cost in the face of
policy theory
monetary policy failure.
• Types of
monetary • Effects on inflation (average inflation has decreased on average,
policies
fluctuations in inflation have declined).
• Inflation
Targeting • Effects on growth and business cycle variability (a slight increase in
• Monetary the average growth, growth variability has declined generally).
Policies and
Financial • Effects in interest rates and exchange rates (a decline in inflation
stability
expectations and the inflation risk premium on nominal interest
• Conclusion
rates, real exchange rate variations have declined on average).
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21. Prof. Dr. Stefan
Jungblut
 Economic effects of inflation targeting
• Introduction • The performance of inflation targeting strategy over the past 20 yrs.
• Monetary
policy theory
• Types of
monetary
policies
• Inflation
Targeting
• Monetary
Policies and
Financial
stability
• Conclusion
Inflation and growth performance (Roger, 2010) Output and inflation smooth (Roger, 2010)
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22. Prof. Dr. Stefan
Jungblut
 Drawbacks
• Introduction • September 2008, central banks that had been depending on
• Monetary inflation targeting have not given enough consideration to assets-
policy theory
price bubbles.
• Types of
monetary • improper responses to supply shocks and terms-of-trade shocks.
policies
• Inflation targeting cannot work in countries that do not meet a
• Inflation
Targeting stringent set of preconditions.
• Monetary
Policies and  Flexible inflation targeting
Financial
stability • Set weight on real GDP growth in the short-run, so long as there is a
• Conclusion clear longer-term target for CPI inflation.
• Inflation targeting should not be a strict inflation targeting but a
flexible inflation targeting.
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23. Prof. Dr. Stefan
Jungblut
 The relationship between monetary policy and financial
• Introduction
stability
• Monetary
policy theory • Inflation can be viewed as one of the major factors creating
• Types of financial stability in the first place.
monetary
policies • Monetary policy and financial stability policy are inherently
• Inflation connected to one another .
Targeting
 Assets price bubbles
• Monetary
Policies and • Asset price movements and asset price bubbles can directly
Financial
stability endanger financial stability.
• Conclusion
 Lessons from the crisis
• Price stability is not enough to attain financial stability and good
flexible inflation targeting by itself does not attain financial
stability.
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24. Prof. Dr. Stefan
Jungblut
• Inflation targeting clearly outperforms both monetary-
• Introduction targeting and exchange-rate regime. While the latter suffers
• Monetary
policy theory
from many drawbacks, the former shows an improved
• Types of performance in terms of inflation reduction and economic
monetary
policies conditions.
• Inflation • To overcome these severe drawbacks, inflation target should
Targeting
• Monetary
be flexible and gives some weight on real GDP growth in the
Policies and
Financial short-run, so long as there is a clear longer-term target for CPI
stability
inflation.
• Conclusion
• flexible inflation targeting does use all information that is
relevant for the forecast of inflation and resource utilization.
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25. Prof. Dr. Stefan
Jungblut
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