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Implicit Asymmetric Exchange Rate Peg under Inflation Targeting Regimes: The Case of Turkey

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  • Ahmet Benlialper

    ()
    (Department of Economics, METU)

  • Hasan Cömert

    ()
    (Department of Economics, METU)

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    Abstract

    Especially, after the 2000s, many developing countries let exchange rates float and began implementing inflation targeting regimes based on mainly manipulation of expectations and aggregate demand. However, most developing countries implementing inflation targeting regimes experienced considerable appreciation trends in their currencies. Might have exchange rates been utilized as implicit tools even under inflation targeting regimes in developing countries? To answer this question and investigate the determinants of inflation under an inflation targeting regime, as a case study, this paper analyzes the Turkish experience with the inflation targeting regime between 2002 and 2008. There are two main findings of this paper. First, the evidence from a Vector Autoregressive (VAR) model suggests that the main determinants of inflation in Turkey during this period are supply side factors such as international commodity prices and the variation in exchange rate rather than demand side factors. Since the Turkish lira (TL) was considerably over-appreciated during this period, it is apparent that the Turkish Central Bank benefited from the appreciation of the TL in its fight against inflation during this period. Second, our findings suggest that the appreciation of the TL is related to the deliberate asymmetric policy stance of the Bank with respect to the exchange rate. Both the econometric analysis from a VAR model and descriptive statistics indicate that appreciation of the Turkish lira was tolerated during the period under investigation whereas depreciation was responded aggressively by the Bank. We call this policy stance under the inflation targeting regimes as “implicit asymmetric exchange rate peg”. The Turkish experience indicates that, as opposed to rhetoric of central banks in developing countries, inflation targeting developing countries may have an asymeyric stance toward exchange rates and favour appreciation of their currencies to hit their inflation targets. In this sense, IT seems to contribute to the ignorance of dangers regarding to over-appreciation of currencies in developing countries.

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    File URL: http://www.erc.metu.edu.tr/menu/series13/1308.pdf
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    Bibliographic Info

    Paper provided by ERC - Economic Research Center, Middle East Technical University in its series ERC Working Papers with number 1308.

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    Length: 29 pages
    Date of creation: Jul 2013
    Date of revision: Dec 2013
    Handle: RePEc:met:wpaper:1308

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    Related research

    Keywords: Inflation Targeting; Central Banking; Developing Countries; Exchange Rates;

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    References

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    1. Joshua Aizenman & Michael Hutchison & Ilan Noy, 2008. "Inflation Targeting and Real Exchange Rates in Emerging Markets," NBER Working Papers 14561, National Bureau of Economic Research, Inc.
    2. Roberto Frenkel & Martin Rapetti, 2008. "Five years of competitive and stable real exchange rate in Argentina, 2002-2007," International Review of Applied Economics, Taylor & Francis Journals, vol. 22(2), pages 215-226.
    3. Elif C. Arbatli, 2003. "Exchange Rate Pass-Through in Turkey : Looking for Asymmetries," Central Bank Review, Research and Monetary Policy Department, Central Bank of the Republic of Turkey, vol. 3(2), pages 85-124.
    4. Hakan Kara & Hande Kucuk Tuger & Umit Ozlale & Burc Tuger & Devrim Yavuz & Eray M. Yucel, 2005. "Exchange Rate Pass-Through in Turkey : Has it Changed and to What Extent?," Working Papers 0504, Research and Monetary Policy Department, Central Bank of the Republic of Turkey.
    5. Hakan Kara & Fethi Öğünç, 2008. "Inflation Targeting and Exchange Rate Pass-Through: The Turkish Experience," Emerging Markets Finance and Trade, M.E. Sharpe, Inc., vol. 44(6), pages 52-66, November.
    6. M. S. Mohanty & Marc Klau, 2004. "Monetary policy rules in emerging market economies: issues and evidence," BIS Working Papers 149, Bank for International Settlements.
    7. Scott Roger & Mark R. Stone, 2005. "On Target? The International Experience with Achieving Inflation Targets," IMF Working Papers 05/163, International Monetary Fund.
    8. Laurence Ball, 1998. "Policy Rules for Open Economies," NBER Working Papers 6760, National Bureau of Economic Research, Inc.
    9. Ali Hakan Kara, 2006. "Turkish Experience With Implicit Inflation Targeting," Working Papers 0603, Research and Monetary Policy Department, Central Bank of the Republic of Turkey.
    10. Dani Rodrik, 2008. "The Real Exchange Rate and Economic Growth," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 39(2 (Fall)), pages 365-439.
    11. Laurence Ball, 2000. "Policy Rules and External Shocks," NBER Working Papers 7910, National Bureau of Economic Research, Inc.
    12. Arslan Razmi & Martin Rapetti & Peter Skott, 2009. "The Real Exchange Rate as an Instrument of Development Policy," UMASS Amherst Economics Working Papers 2009-07, University of Massachusetts Amherst, Department of Economics.
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