Sunday, July 18, 2010

A very late Addendum to last week's Hurriyet column

My latest Hurriyet column will be up in 3 minutes, so I am really ashamed to do such a late addendum, but I just cannot deprive my loyal readers of vital extra info. on last week's column.

First of all, let me start by giving you comparison graphs for the old and new RER. First, by CPI:
Then, by PPI:
A couple of words on the impossible trinity are also in order: First, Greg Mankiw does a really good job at summarizing the tradeoff between exchange rate stability, monetary policy autonomy and capital mobility in his NYT column from last Sunday. Menzie Chinn of Econbrowser fame, in response to the Mankiw article, sketches a paper of his where he and his coauthors look at how different countries have traded off these objectives through time.

A more general statement of the impossible trinity is that you cannot have more targets than instruments. Then why not embed targeting the real exchange rate into the Bank’s monetary policy reaction function? That, I think, is the most sensible suggestion among the many floating around. Note that the traditional Taylor rule has inflation and the output gap, so you can simply think of this as an extended Taylor rule.

One final point on the exchange rate overvaluation argument: I think there is a great confusion between the ability to export and the amount exported/profits made. Having co-authored a paper that makes that distinction for FDI back in my Ankara days, I feel that the former would be affected much less by the exchange rate. And if you are interested in how much the exhange rate matters in the first place, a couple of CBT papers from last year would be a good place to start (and finish)...

And here's my journalistic (and gossiping) instincts kicking in: An ex-Central Banker told me she was really surprised that the Bank had published the methodology paper. More transparency is not always better in Central Banking, but in this particular case, to publish the paper was a really smart move to quell cries of data manipulation.

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