Emre Deliveli writes an interesting blog on Turkish economics as part of Roubini Global Economics. He has a post where he gets struck by a phrase by the Turkish central bank governor: `short-term capital flows could disrupt price and financial stability by causing excess volatility in lending and exchange rates’. As with a lot of what India’s RBI says, it sounds like plausible mumbo jumbo and passes muster in the conventional low quality economic discourse, but actually betrays a lack of knowledge of monetary economics.
That was a verbatim quote from a blog post of Mr. Ajay Shah. Here is the link to that post dated 22nd February 2013.
There were too many judgemental phrases that piqued my interest. Plausible, mumbo jumbo, conventional, low-quality, lack of knowledge, etc. He also did not waste an opportunity to take a dig at the Reserve Bank of India. Wonder why the Ministry of Finance of the Government of India does not come in for closer scrutiny in the hands of Mr. Shah.
I went and read the original post by Mr. Emre Deliveli. I cannot have anything against him since I did not know him before I read the above comments. But, I must confess that I came back with very little clarity on what Mr. Deliveli was trying to say. I had not read the speech of the Governor of the Central Bank in Turkey. Perhaps ,the speech was in Turkish language and much of it could have been lost in translation. Second, it also seems to me, a tad unfair, to take one part of it out of context and criticise the speech.
In particular, this paragraph from M. Deliveli’s blog post conveyed the impression that either he did not understand the central bank or that he failed to convey to us his understanding of the central bank or may be, I am just a low-quality economist:
During his presentation of the bank’s 2013 Monetary and Exchange Rate Policy on Dec. 25, Gov. Erdem Başçı noted that “short-term capital flows could disrupt price and financial stability by causing excess volatility in lending and exchange rates.” Therefore, the bank would not allow sharp moves in either. In Friday’s column (you can read the whole thing at the HDN website), I argue that this new target does not make sense: The market and academic economists I talked to are not aware of any theoretical link between the volatility in credit growth or exchange rates.
I do not hold any brief for Turkey monetary policy. I have not followed it closely enough to praise it or sink it. But, even if the Turkey Central Bank was wedded to inflation targeting (it would be a pity if it were the case), I am unconvinced as to why it should not be casting a wary glance at short-term capital flows which, by their nature, are destabilising.
They can cause a rapid appreciation of the currency if the central bank did not intervene. If it did, it could cause domestic money supply to raise and credit growth to raise, unless sterilized. If sterilized, sterilization costs can be substantial. These are real issues and could have a bearing on the price gauges too.
It is all fine and dandy in theory to allow the so-called market forces to play out. But, who are the participants in global capital markets today? Central banks and sovereign wealth funds.
Second, market forces may work out all very well in the very long run but real economic players face real costs of adjustment if financial prices move too much in too short a time.
I decided to go and check out the website of the Central Bank of Turkey and I found the speech of the Governor that Mr. Deliveli has blogged about. I shall resist the temptation to take a page out of the book of vocabulary of Mr. Shah and will not call Mr. Deliveli’s blog post all low-quality mumbo jumbo. But, clearly, he has made a mountain out of a molehill or Much Ado about Nothing.
This is the link to the Bank’s Monetary and Exchange Rate Policy for 2013. The relevant paragraphs are paragraph no. 5 and 21. In fact, at the outset ,the bank says that it has had to overlay considerations of financial stability on top of price stability, esp. after 2008. For my money, I cannot understand why central bankers should be focused on price stability. Well functioning markets for goods and services will take care of themselves. Central banks ought to have focused (only) on systemic stability. If you have not yet read George Cooper’s ‘Origins of Financial Crises’, it is about time you did so.
What is macro-prudential regulation? Jargon-free definition: watch every damn thing.
This is what the Central Bank in Turkey said in paragraph 5 of its 2013 Monetary Policy and Exchange rate policy statement:
5. In Turkey, movements in capital flows and global liquidity cycles manifest themselves mainly as fluctuations in credit and foreign exchange rate. In emerging economies like Turkey, a rapid appreciation of the local currency may favorably affect the balance sheets of firms, leading to excessive lending appetite by banks and thus rapid credit growth. Therefore, the new policy framework attaches special importance to variables like credit and the exchange rate. Both the rapid credit growth and excessive appreciation of the exchange rate distort the resource allocation within the economy and negatively affect macroeconomic stability by causing the domestic demand to grow faster than aggregate income. In the economic literature, rapid credit growth also stands out as one of the significant variables that precede financial crises. Meanwhile, excessive appreciation in the foreign exchange rate may create distortions regarding the macroeconomic and financial stability in an open economy by increasing systemic risk through multiple channels, in particular the balance sheet channel. On the other hand, an abrupt contraction in credit or an excessive depreciation in the local currency is also undesirable from a macroeconomic and financial stability perspective. Therefore, in order to smooth out the effects of the volatility in capital flows, credits should grow at plausible rates and developments in the foreign exchange rate should be consistent with economic fundamentals. The policy framework developed by the CBRT in the last couple of years should be considered from this viewpoint.
21. While aiming at keeping inflation at close levels to the target, the CBRT continues to safeguard financial stability from a macro perspective. In this context, the CBRT will maintain its strategy to contain the volatility led by capital flows on domestic economy. Therefore, the CBRT will not disregard excessively rapid changes in credit or significant exchange rate misalignments. In sum, without prejudice to the price stability, risks to excessive borrowing and macroeconomic imbalances will be taken into consideration in the conduct of monetary policy.
Nowhere has the Central bank said that it is targeting either credit or exchange rate. Nor is it advocating a tax on short-term capital flows or capital controls. I must admit that the paragraph 21 is clumsily worded in English, especially the second sentence.
In simple words, Central Bank of Turkey will be concerned by large and abrupt swings in short-term capital flows for they impact the domestic economy via domestic credit channels and corresponding large swings in the exchange rate. So, it will have to watch excessive credit growth and other macro-economic imbalances without prejudice to its primary goal of price stability.
No decent quality economist – whether monetary or non-monetary – should have objection to a Central bank wanting to keep a close eye on excessive credit growth.
So, I cannot see anything that is low quality, mumbo jumbo nor basic ignorance of monetary economics in the policy statement of the Central Bank of Turkey or that of the Reserve Bank of India.
If Mr. Deliveli (or, for that matter, Ajay Shah) is looking for a central bank that is engaging in mumbo jumbo, low quality monetary economics, he can do no better than look here.