1. ACADEMY OF ECONOMIC STUDIES DOCTORAL SCHOOL OF FINANCE AND BANKING DISSERTATION PAPER SOME ASPECTS REGARDING MONETARY POLICY TRANSMISSION MECHANISM IN CENTRAL AND EASTERN EUROPEAN COUNTRIES MSc Student: Andrei Birman Supervisor: Professor Moisă Altăr BUCHAREST -2004

2. Content 1.Introduction 2.Monetary policy transmission mechanism; theory and evidence 3.Identification and estimation 4.Discussion of the results 5.Concluding remarks References

3. Monetary policy transmission mechanism Traditional interest rate channel; Blinder, 1997:”interest sensitivity of business investment spending is subject to doubt……may have more to do with homebuilding and consumer durables” Other assets price channel: exchange rates: affect relative prices between domestic and foreign goods  affect domestic/foreign demand for domestic goods  aggregate demand channel equities Credit view: (Bernanke, Gertler) emphasize a combination of asymmetric information problems in credit markets and portfolio balance effects based on imperfect asset substitutability bank lending channel balance sheet channel – “finnacial accelerator”: the impact on investment of small interest changes is magnified by balance sheet effects; Modern view (Cecchetti): assigns a special role to the financial structure and legal system.

4. IDENTIFICATION and ESTIMATION Vector Autoregressions –VARs Cholesky decomposition Model 1 [P Y E R M2] Model 2 [P Y E R M1] Czech Republic 1998:01-2004:01 (1997 - currency turbulence and price liberalization) Hungary 1998:01-2004:02 (still some monetary policy independence; availability of data) Poland 1997:06 – 2004:01 (exchange rate band +/- 10% ) Romania 1997:06 – 2004:01 ( 1997 price liberalization)

5. Variables used:

7. Poland – unit root tests

8. Polonia - Model 1 [P Y E R M2] – 2 lags

10. Equation for prices

11. Equation for industrial production Equation for nominal effective exchange rate

12. Equation for interest rate Equation for M2

13. Identification of Interest rate shocks (full line – impulse response function; dotted lines – 2 Std.error bands)

14. Identification of Money shocks (full line – impulse response function; dotted lines – 2 Std.error bands) Responses to money shock (first row M2, second row M1)

16. Factors that could influence and/or determine opposite responses from the two monetary aggregates. Czech National Bank Inflation Report, April 2004,page 8 “….the monetary aggregate M1 maintained a growth rate that was supported by low interest rates, which are giving rise to a long term upward tendency in demand deposits at the expense of time deposits of corporations and households”. National Bank of Romania, Inflation Report 2/2003, page 42

17. Identification of Exchange rate shocks (full line – impulse response function; dotted lines – 2 Std.error bands)

18. Variance decomposition and Granger causality tests prices --explain large part of their variance – inflation persistence --procentual variance of P due to E - ~40% at 12 months, in Czech R. and Romania industrial production – explain much of its variance – supply side has its own sources of variation --still, in Hungary and Poland, R accounts for Y variance at longer horizons Broad nominal money supply explain ~20% of price variance and (except Czech R.) none of the Y variance

19. Concluding Remarks  interest rate  ”price puzzle” in Poland, Czech R. (probably can be reduced if including foreign variables);  a fall in Romanian prices; not significant response for Hungary;   industrial production in Hungary and Poland; no response for Romania and Czech R. Mixed evidence about monetary aggregates; greater interest rate elasticity of M1, but, on average, do not seem to be better policy actions indicators than interest rates; Exchange rates play an important role in each country; seem to respond to interest rate movements; and conversly, generates interst rate responses; Future work must look inside the “black box”; The fiscal side must be taken into consideration;

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22. *****Inflation Report, (2003) third quarter, National Bank of Poland *****Inflation Report (2004), april, Czech National Bank *****Inflation Report 2/2003 National Bank of Romania *****Quarterly Inflation Report, February 2004, National Bank of Hungary