Introduction: The Central Bank has implemented the full-fledged inflation targeting regime since 2006 in order to achieve the main purpose of price stability. The Bank has developed a new monetary policy strategy by improving the inflation targeting regime from the end of 2010 in order to keep macro financial risks as a reflection of global imbalances under control. In this new policy mix, CBRT include in the scope of financial stability into inflation targeting regime by make use of complementary instruments. In this study, I will asses this new policy by utilizing Financial Stability and Monetary Policy article. (Ba?ç?, E. Kara, H.
2011) By the time the article published it was the early stage of policy implementation and they looked at initial results, however after 7 years we’re able to assess impact of implementation. I. Implementation of New policy Before 2010, CBRT’s main objective was price stability and the only policy tool was short term interest rates. Forecast of macroeconomic variables and predictability of macroeconomic relations caused a misunderstood of economic dynamics can be described by a simple framework during the period of “great moderation” (from 1990s to mid-2000s). (Kara, H.
et al, 2011) However, this was not lasted long, after the global crises, the consensus on the monetary policy is not continued anymore. On the other hand, there is an increase in the concurrence of central banks should also consider financial stability together with price stability. Therefore, the need of designing new policy mix problem came to the stage, which instruments should be used to deal with financial stability. Therefore, it is realized that economic dynamics are more complicated than it is seen as a simple framework before the global crisis. To reach this new objective and to taking into consideration to macro-financial risks that causes from global imbalances, CBRT developed a new monetary policy framework by making adjustments on the inflation targeting framework. Due to the diversity of objectives, the policy instruments are also diversified. The first one, structural tools are maturity based reserve requirements, leverage based reserve requirements and reserve options mechanism.
The second one, cyclical tools are policy rate, interest rate corridor, TL liquidity management, FX liquidity management. Figure 1.2 Policy Framework Requirements for price stability is stable money growth, stable velocity and stable output growth.
In Economics balance is the most important thing which is “stability” in that context, if variables can remain stable there will not be significant problem. We will examine the control of money and credit growth which is done by macro prudential measures, quantitative easing and interest rates. As seen in the figure 1.2 B below, inflation expectations remain quite stable in initial implementation period and there is a downward trend until the 2014.
This is a good sign of new policy does not worsen the inflation expectations it even improves for four years. After the 2014, we see an upward trend until 2016 this can be because of depreciation of TL or other endogenous and exogenous factors. Hence we can see good signs of new policy mix and no need to worry about deterioration in inflation expectations. Figure 1.
2 Monetary Policy and Inflation ExpectationsCentral Bank faces a policy trade off between high inflation requires a tight monetary policy and high interest rates that will cause capital inflows which increases domestic credit and appreciate domestic currency. (Issing, O., 2003) Hence in that direction central bank implement policy mix to handle volatile capital flows and also to achieve inflation target by operating an unorthodox interest rate corridor and containing domestic demand. These policies helped to stabilize exchange rate, however inflation target is not reached as seen in the figures 1.
2 panel A and panel B. According to the OECD report in 2016, there is a risk of inflation will not fall enough and not reach to targeted inflation and in this case to prevent erosion of central bank credibility, monetary policy will be need to tightened much more and bring inflation down. OECD suggest that to improve the credibility of central bank, policy interest rate corridor should be narrowed down. (OECD report 2016) II. The Impact of the New Policy In 2011 Financial Stability Committee was founded, that was a major step to implement a formal macro prudential framework. The FSC is bringing major institutions together, these are Treasury, Bank Regulation and Supervision Agency, Capital Markets Board, Central Bank, and Saving Deposit Insurance Fund. It has not its own tools, its main aim is to enhance communication between these intuitions and cooperation between parties. There was a two focus, credit growth by reducing household indebtness and increasing savingsand improving the quality of bank liabilities to prevent from the effects of external shocks.
(Kara, H. 2015) Firstly, in the new policy mix central bank’s and FSC’s main objective is to prevent macro-financial risk and keep loan growth at stable rates especially in housing market due to the 2008-2009 housing bubble crises. There are many studies about the link between credit booms and financial crisis. Since the effect of policies comes with a lag we see the responds after 1-2 years later.
Annual rate of loan growth increased until the end of 2013 and after that year we see significant decrease in growth of every loan market as we can see in the figure 2.1 below. Figure 2.1 Annual Growth in Retail Loans Until 2016, there was a moderate growth of loans because of the measures taken by the BRSA. According to Monetary Policy Surprieses, Credit Costs and Economic Activity article, monetary policy responses typically produce modest movements in short rates that lead to large movements in credit costs and economic activity. The large movements in credit costs are mainly due to the reaction of both term premia and credit spreads that are typically absent from the baseline model of monetary transmission.
(Gertler, M. et al. 2013) In this direction, CBRT Financial Stability report of 2016 shows that increase in the TL funding cost of banks lead to an increase in the interest rates on TL loans to corporates as we see in the figure 2.2 on the right and below. This was a part of macro prudential measures to boost consumer loans intentionally. Figure 2.2 Loan Standards and Loan Demand Secondly, the other objective was to enable more efficient liquidity management of banks by decreasing required reserve ratio of Turkish Lira as we see in the figure 2.
3. Moreover, CBRT takes into consideration not only TL liquidity but also FX market liquidity to react exchange rate fluctuations in 2016 again by decreasing required reserve ratio of foreign currency as we see in the figure 2.4Figure 2.3 Required Reserve Ratios of TL Figure 2.4 Required Reserve Ratios of FX As we see in the figure 2.
4 in 2016 there is very wide range of required reserve ratio of foreign currency bacuse of the high volatilty of FX. In the figure 2.5 below, we can observe this high volatilty in the second quarter of 2016. Figure 2.5 FX Volatility in Turkey and Emerging Economies The yields curves normally are upward sloping which means short term interest rates are low and long term interest rates is higher. The yield curve of Turkey was inverted in the first quarter of 2016 and became horizontal through the second quarter.
This was because of the low interest rates in in the developed countires, this caused an downward shift in the yield curve of Turkey. Moreover became upward sloping in the second half of 2016 which is a good sign as we see in the figure 2.6 below. Paralell to this, spread between 5 year and 3 month swap rates increased due to high interest rate on 5 year swaps as we can see in the figure 2.7 below.
Figure 2.6 The Yield Curve of Turkey in 2016 Figure 2.7 Swap Rate Spread Between 3 month and 5 year Now we will look at current account deficit, its financing items, net capital inflows in 12-month period. After 2011, we see a decline in the deficit. Moreover, the share of foreign direct investmen and longterm capital inflows in total net inflows have increased regularly. In other words, both the current account balance and the quality external finance have improved markedly since the implementation of macroprudential policies. These are the good signs of macroprudential polices and there is significant improvement in the current account deficit since 2001. Figure 2.
8 Current Account Deficit III. Conclusion Turkey is a developing country and have to consider global financial risks before the global crises effects shows up. There should be stability in the economy, like stable exchange rate, stable increase in output and money demand and the other variables we examined.
Economics especially developing countries economies are not very simple and central banks of these countries have to take into account macro financial risks. In this paper, our empirical results show that macro-prudential polices that implemented in the beginning of 2011 improved Turkish economy in many ways. We can say that developing countries can apply macro prudential policies for better economic conditions. However, we could not say what should be the exact policy mix, it can change under different conditions and with several factors.