Monetary Policy in Emerging Markets: Taming the Cycle

Abstract

In contrast to advanced markets (AMs), procyclical monetary policy has been a problem for emerging markets (EMs), with macroeconomic policies amplifying economic upswings and deepening downturns. The stark difference in policy has not been subject to extensive study and this paper attempts to address the gap. Key findings, using a large sample of EMs over the past 50 years, are: (i) EMs have adopted increasingly countercyclical monetary policy over time, although large differences remain among EMs and policies became more procyclical during the recent crisis. (ii) Inflation targeting and better institutions have been key factors behind the move to countercyclicality. (iii) Only deep financial markets allow EMs with flexible exchange rate regimes turn countercyclical. (iv) More countercyclical policy is associated with far less volatile output. The economically meaningful impact of IT on monetary policy countercyclicality and output variability is another reason in its favor, over and above better inflation outcomes.

Oil price cycles, fiscal dominance and countercyclical monetary policy in Iran

“…As discussed by McGettigan et al . (), generally, advanced market economies run countercyclical policy and the majority of emerging economies’ monetary stance is pro‐cyclical. However, largely through adoption of inflation targeting, a large number of emerging market economies have over the years moved on to countercyclical monetary policy .…”

“…As argued by McGettigan et al . (), only those emerging market economies with deep financial markets and flexible exchange rates have been able to run countercyclical monetary policies. Monetary Policy in a developing economy exposed to oil price (terms of trade) shocks is somewhat more complicated.…”

“…In particular, for commodity‐exporting countries fiscal policy has a pro‐cyclical character that can induce comovements in monetary operations or policies. This combination tend to exacerbates expansionary aggregate demand forces during booms and weakens them during an economic downturn (McGettigan et al ., ), and overwhelms the anti‐cyclical nature of monetary policy. Moreover, pro‐cyclical fiscal and monetary policies can give rise to appreciation of the real exchange rate and loss of competitiveness.…”

Monetary Policy and Cyclical Systemic Risk - Friends or Foes?

“…Many empirical studies have been conducted on the monetary policy effect on the business cycle (see e.g. Kaminsky et al (2005), McGettigan et al (2013). However, to our knowledge, the potential effect of monetary policy on a financial cycle has been explored only to a limited extent to date.…”

It ain’t over till it’s over: A global perspective on the Great Moderation-Great Recession interconnection

“…The increase in global excess liquidity (L) occurred since the mid-1990s (Figure 3, second row, dashed line) is accounted for by shocks originated in the oil and labour markets (LM), reflecting the countercyclical use of monetary policy in OECD countries since the 1980s (Sutherland 2010) and in some emerging economies following the sub-prime financial crisis (McGettingan et al 2013), while shocks to risk factors (RF), productivity (PR) and goods' aggregate demand (AD, shown together in the second row, last plot) have moderated global excess liquidity creation. Feedback effects from asset prices to excess liquidity generation are detected through the contributions of portfolio allocation shocks (mostly due to housing and stock preferences) to global liquidity dynamics, as well as the relevance of leverage-credit spirals unrelated to fundamentals through the contribution of the (own) leverage shock to financial leverage fluctuations.…”