1. Monetary Policy in Developing countries: Challenges and Opportunities Vahagn Grigoryan Central Bank of Armenia 1

2. Table of content Monetary policy problems in developing countries Monetary policy reaction options International coordination of monetary policy 2

3. Monetary policy challenges: Inflation International commodity prices are very important fators for domestic inflation in emerging markets. International prices and exchange rate are responsible for most of the inflation volatility. Domestic demand is also affected by external factors (capital flows, exports, remittances). 3

4. Monetary policy challenges: Demand factors QE 1 decreased capital outflow from developing countries and helped to close output gaps Developing countries gained room for expansionary monetary policy to restore the equlibrium Output gaps in EurAsEC countries 4

5. Monetary policy challenges: Financial factors Capital inflow resulted in debt accumulation and increase vulnerability from exchange rate shock Monetary policy took advantage of capital inflow and pursued the internal targets QE2 - QE3 5

6. Current challenges started in 2Q-13 with the announcement of “tapering” “Tapering” was not in the interests of emergig markets Russia experinces very large capital outflow Monetary policy challenges: Demand factors Tapering 6

7. Monetary policy reaction options Conventional approach to stabilization policy (Friedman, 1953) o Exchange rate as a stabilizer during external real shocks “Fear of floating” problem (Calvo, Reinhart, 2000) o Эффект переноса, валютные несоответствия, ценообразование Pragmatic approach (Ostry, Ghosh, Chamon, 2012) o Two targets – two instruments Global financial cycle problem(Rey, 2013) o Capital control/macroprudential policy Monetary policy coordination(Taylor, 2013) o Maximizing welfare in times of uncertainty 7

8. Monetary policy coordination International level Regional level Informal 8

9. International coordination of monetary policy QE during global financial crises was a deviation from normal monetary policy and, therefore, created room for international coordination of monetary policy. Emerging economies demand their inclusion in coordination processes. No any central bank can act for global goals neglecting domestic objectives. No one have a mandate for that. Potential coordination of monetary policy with emerging markets require that they should be significantly effective/credible domestically. Alternative point of view(Ullrich, 2014) 9

10. International coordination of monetary policy Path to coordination (Ullrich, 2014) Step 1: Information exchange among central banks Step 2: Effects of monetary policy abroad are systematically taken into account domestically. Step 3: Multilateral and equal recognition of this effects in monetary policy decision making. 10

11. Regional coordination of monetary policy Regional coordination is possible, but very limited Regions still experience extra-regional shocks Regional integration amplify shock spillovers, unless full integration is achieved Problem 1: Optimal currency area preconditions Problem 2: Ineffectiveness of domestic monetary policy Problem 3: Risk sharing and decision making in regional arrangements 11

12. Conclusions "International policy coordination is like the Loch Ness monster: much discussed but rarely seen.“ (Blanchard, Ostry, Gosh, 2013) International coordination with global issuers of reserve currency is THE BEST solution to challenges to monetary policy in times of uncertainty and crises. But it is hardly achievable. Exchange rates have very important role as stabilizers during external shocks, but financial vulnerabilities is more important for the most of developing countries.. 12

13. Выводы: Second-best solution “Inflation forecast targeting” together with “ sterilized interventions” can achieve the maximization of global welfare without use of costly coordination. (Ostry, Ghosh, Chamon (2012)) Use of “macroprudential tools” for effectively control capital flows. (Rey 2013) 13

14. Literature Blanchard O., Ostry J.D., Gosh A.R., “International policy coordination: The Loch Ness Monster”, IMF Direct, 2013 Calvo G.A., Reinhart C.M., “Fear of Floating”, NBER, 2000 Friedman M., “The Case for Flexible Exchange Rates”, The University of Chicago Press, 1953 Ostry J.D., Ghosh A.R., Chamon M., “Two Targets, Two Instruments: Monetary and Exchange Rate Policies in Emerging Market Economies”, IMF Staff Discussion note, 2012 Rey H., “Dilemma not Trilemma: The Global Financial Cycle and Monetary Policy Independence”, LBS, CEPR, NBER, 2013 Taylor J.B., “International monetary policy coordination: past, present and future”, BIS Working Papers, No 437, 2013 Ullrich K., “Monetary policy coordination or not – is that the issue here?”, KFW Economic Research, No.70, 2014 14

15. Thank you! 15