Inflation targeting is what? The policy of inflation targeting

Inflation is a general increase in prices. To measure its level, the indicator of the change in the value index relative to the base period is used.

Classification

Inflation is of two types. The first is due to increased demand for goods. Accordingly, it is called inflation of demand. In this case, the consumer is willing to pay more for a specific product. At the same time, the economic system can aspire to a certain point, which is outside production opportunities. Enterprises, therefore, depending on the circumstances, either increase the prices of the goods, or increase its output. Inflation of supply takes place with a relatively constant demand. The prices for products increase in this case due to the growth of costs (the cost of products is increased). Since enterprises can not sell products at a loss to themselves, they are forced to increase its price. In accordance with the law of supply-demand, in the case of increasing costs, the number of units sold is reduced. If the government does not take any adequate measures, then the economy begins to decline.

Transition to inflation targeting

In many developed countries, the overall price increase is an urgent social and economic problem. Inflation is not only an increase in the cost of production. It leads to a depreciation of savings, capital flight in real estate, precious metals and foreign assets, a decrease in investment attractiveness. This, in turn, slows economic growth, complicates long-term planning, increases tensions in society. At present, many states use exchange rates and monetary aggregates as intermediate goals of the financial and credit program. But in the nineties many countries moved away from this tradition. Some experts believe that the financial and credit program of some states can be characterized to a certain extent as inflation targeting. So, for example, the well-known economist J. Taylor believes that in the US she relies on the empirical position of this approach. In accordance with this rule, the reserve federal system periodically adjusts the interest rate on funds. So it reacts to deviations of the domestic output from the potential output, and inflation - from the forecast. Some countries specifically choose this approach. Undoubtedly, there are advantages and disadvantages of inflation targeting. But for such countries, the achievement of a stable price level acts as the most important factor ensuring economic growth.

The policy of inflation targeting

As practice shows, all attempts to achieve other goals of economic sustainability (industrial growth and high employment of the population) are contrary to the principles of price stability. In a situation where a developed country is threatened by inflation, central banks tend to raise interest rates using inflation targeting. This, of course, causes a lot of discontent, especially from the actors involved in the real sector of the economy. This approach, however, helps prevent conflict of interest. This is due to the fact that the main goal of the financial and credit program is not to stimulate a high indicator of employment or production growth, but rather a planned "formation" of inflation. In addition, based on this approach, adequate response measures can be taken even before the crisis.

The essence of the method

How does inflation targeting work? The central bank predicts the expected dynamics of price growth and compares it with the target indicators that it is desirable to achieve. The difference indicates the necessary scale of adjustment of the financial and credit program. As a result, a planned inflationary level is established. The authorities at the same time use all means to achieve this indicator. The states in which this approach is used consider that it contributes to the improvement of the efficiency of monetary policy in comparison with standard methods.

Initial Requirements

There are two conditions that must be met in order to implement inflation targeting. It:

1. A sufficient degree of independence of the Central Bank from the government. The financial institution should be free to choose the tools with which it is expected to reach the target level.
2. The authorities' refusal to target other economic indicators. These include, in particular, wages, exchange rates, or employment levels.

Explained

To fulfill the first condition, you should abandon the "fiscal dominance". This means that the fiscal system should not exert any influence on the financial and credit system. In case of refusal of fiscal domination, it is assumed that the state borrowings from the Central Bank are extremely low or zero, as well as sufficient development of the domestic money market. The latter is necessary to absorb additional emissions of government obligations. In addition, the state should have a large revenue base. While maintaining fiscal dominance, the tax system will stimulate inflationary pressures. This, in turn, will reduce the effectiveness of the financial and credit program. As for the second condition, if the country pursues a policy of a fixed exchange rate, with the high mobility of international capital, it will not have the opportunity to simultaneously apply inflation targeting. This affects the market participants who will not know which of the several goals the government will give preference in the event of a worsening situation. For example, if there is a probability of exchange rate stability, the Central Bank will have to choose: to continue to hold a fixed rate and thus abandon the inflation target, or to keep the planned level, but to sacrifice the exchange rate.

Action Scheme

The main activities that are necessary to conduct effective inflation targeting are:

1. Development of methodology or forecasting model.
2. Establishment of quantitative inflation indicators for the forthcoming period.
3. Assurance of market participants is that the goals set are more relevant than others.
4. Selection of suitable monetary instruments. With its help inflation will decrease to the target level.
5. Creation of institutional and technical prerequisites for forecasting and modeling of domestic price increases.
6. The definition of the lag between the moment of introduction of monetary instruments and the time of its impact on the level of inflation.
7. The study of the degree of effectiveness of individual instruments.

The definition of the target figure also implies:

1. Choosing the type of price index.
2. Formation of tasks in terms of inflation rate or price level.
3. Calculation of the dynamics of the upcoming increase.
4. Formulation of the target as a range of oscillations or a point value.
5. The reservation of possible deviations from the targets or the rejection of the landmark in the event of special circumstances.

Situation in the Russian Federation

To date, experts believe that the Central Bank adheres to the "catch-up strategy", within which Russia's transition to inflation targeting is planned. So, in particular, in the Draft Guidelines for the Financial and Credit Program for 2013-2015. It was stated that in the three-year period, the continuity of the principles applied will continue. By 2015 it was planned to establish an inflation targeting regime in the country. The draft also indicated that, thanks to a set of measures aimed at improving the system of instruments, increasing the flexibility of the ruble exchange rate, managed the current interest rates. However, the mechanisms that the Central Bank uses are not sufficient to ensure stability in the economy.

Problems

Inflation targeting in Russia is hampered by a number of significant circumstances. As usual measures in this approach are measures to reduce budget expenditures, tighten financial discipline, reduce the volume of loans for commercial banks. As a result, negative phenomena occur. In particular, banks' lending to the industrial sector is declining, liquidity, consumer and investment demand are falling, and incomes are rising. The inflationary level is determined by indicators whose dynamics are almost impossible to predict. Such monetary variables include monopolization of domestic markets, imbalance on world trading platforms, especially in the energy market. Slowing down the inflation rate due to a decrease in the money supply may contribute to a further drop in liquidity. This, in turn, will cause significant problems in the banking sector. Since inflation in the Russian Federation is primarily imported, raising interest rates will not have a significant impact on the cost of hydrocarbon raw materials. While the country does not take measures aimed at limiting the impact of world prices on domestic prices, the latter will rise after the first. The traditional approach for targeting is to increase the interest rates of the Central Bank. This measure can help reduce aggregate demand. It, in turn, will slow down the economy and limit the increase in the cost of a number of services and goods, especially non-tradables. However, these actions alone can not reduce inflation to the planned levels.

Possible Solutions

In the absence of a purposeful structural and investment program, technological changes in the domestic economy are estimated by specialists as regressive. They are expressed, according to experts, in a fairly rapid degradation of the structure of the economic system. The most serious recession has affected modern industries, which have made a "rollback" for 15-20 years ago. This means that targeting should first of all be directed not to inflation, but to economic growth. In the real sector there is a strong depreciation of fixed assets. To accelerate their renewal, huge investments will be required. It is impossible to find capital in the enterprises' own funds. In today's situation, production can not do without borrowing.