Andrei Polbin: The Floating Exchange Rate Regime Smoothes Volatility of Oil Prices

Participants in the Gaidar Forum’s expert discussion “Russian Economy Macroeconomic Modeling” discussed cross-section analysis issues and macroeconomic forecasting amid changing monetary policy of the RF Central Bank.

The moderator of the meeting was Andrei Polbin, Head of the Macrtoeconomic Modeling Department, Gaidar Institute.

The participants discussed the following issues: the role of the inflation targeting regime in the long-term output dynamics; efficiency of the RF Central Bank’s communications policy as an integral component of inflation targeting; existing macroeconomic models for forecasting and analysis of business cycle factors and the economic policy in the Russian Federation and prospective lines of adaptation of the existing models to the current economic realities for building forecasts and providing analytical support to economic policy decisions; the importance of the Phillips curve for the Russian economy; and problems related to identification of trends in the dynamics of macroeconomic indices.

Reports were delivered by the following speakers: Philipp Kartayev, Head of the Economics Department, Moscow State University; Sergei Merzlyakov, Deputy Head of the Laboratory, NRU HSE; Rodion Lomivorotov, Senior Economist, Sberbank CIB; Andrei Polbin, Head of the Macroeconomic Modeling Department, Gaidar Institute; Andrei Schulgin, Senior Lecturer, NRU HSE in Nizhny Novgorod; Andrei Zubarev, Senior Researcher, RANEPA; Marina Turuntseva, Head of the Short-Term Forecasting Department, Gaidar Institute.

Russian macroeconomic indicators’ dynamics were dramatically affected by the developments which took place late in 2014. In particular, nobody expected such a large-scale depreciation of the rouble in 2014, while most analytical agencies forecasted a deeper recession in 2015-2016. This situation requires the existing modeling tools to be adapted for the cross-section analysis and forecasting in the current economic situation of the role of the monetary policy in the ongoing economic processes when the Central Bank of Russia switched over to the floating exchange rate of the rouble and inflation rate targeting (IRT).

The debates were opened by Philipp Karatayev. Proceeding from his own calculations and foreign research analysis, the expert showed strong empirical evidence in favor of the positive

effect of the switchover to IRT on the output long-term dynamics. However, one should not seek to achieve a complete free-floating exchange rate within the IRT limits: IRT-based exchange rate management enhances the likelihood of inflation rate targets being achieved (at least for developing countries). As the price stability can be achieved quicker in combination with the reduced exchange rate volatility, hybrid inflation rate targeting is more efficient in facilitation of long-term economic growth than the ordinary IRT.

An integral component of the IRT is the RF Central Bank’s information policy, noted Sergei Merzlyakov in his report. The subject of his research in co-authorship with Ramis Khabibulin was the effect of the RF Central Bank’s information policy main instrument, that is, regular press-releases after the meetings of the RF Central Bank’s Board of Directors on monetary policy issues on the interbank MosPrime Rate; the efficiency of this instrument can be seen in the effect of the Central Bank’s information policy on the Russian money market.

Also, participants in the debates discussed macroeconomic models for forecasting and cross-section analysis of the Russian economy. Rodion Lomivorotov’s report was dedicated to modeling of the Russian economy by means of the Bayesian vector autoregression model. The expert showed high forecast power of the developed model that permitted to construct functions of the impulse response of domestic macroeconomic indicators to external and domestic shocks and obtain the estimates of those shocks’ contribution to the modulation of domestic variables.

In his report, Andrei Polbin paid a particular attention to the analysis of the correlation between the domestic economy and the trade conditions represented by the level of oil prices. In the DSGE balanced growth model, Andrei Polbin showed on the basis of the numerical imitation analysis that in the controlled rouble exchange rate regime permanent changes in trade conditions gave rise to GDP’s dome-shaped response: the effect from upgrading of trade conditions on output growth rates was positive in the short-termed period and negative in the mid-term prospect. Generally, the long-term multiplier of the output level based on trade conditions is positive, but the rouble exchange rate management regime brought about excessive overheating of the national economy and produced an overshooting effect of the GDP level to its equilibrium in the long-term prospect.

As seen from the calculations, the IRT regime stabilizes much better macroeconomic variables and in case of modification of trade conditions permits GDP to adjust smoothly to its new long-term equilibrium. Andrei Polbin estimated a two-regime error correction vector model. The outputs of econometric estimates were in harmony with the theory: with growth in oil prices the controlled rouble exchange rate regime fueled overheating of the economy, while the floating exchange rate regime permitted output to adjust smoothly to the equilibrium in response to oil price shocks. Also, Andrei Polbin made a forecast -- based on the above model -- of GDP growth rates, consumption and investments in 2018.

In his turn, Andrei Schulgin touched upon the issue of modeling of sterile interventions which may become an additional monetary policy instrument to promote public well-being. The first part of the speaker’s report was dedicated to the theoretic aspects of building of dynamic stochastic general equilibrium models which permitted to describe the zero effect of modification of the instrument in question on the economy. The second part of the report dealt with econometric evaluation of DSGE and VECM models which demonstrated the existence of the statistically significant effect of the RF Central Bank’s sterile interventions on the rouble exchange rate.

Andrei Zubarev’s report was dedicated to the analysis – based on the Phillips curve -- of inflationary processes in the Russian economy. The expert concludes that the inflation rate calculated by means of the GDP deflator minus exports correlates better with the Phillips curve formula as compared to the inflation rate based on the GDP deflator or CPI. It can be explained by the fact that the inflation rate does not explicitly take into account prices of import and export goods, a larger portion of which are traded on the exchange and have quite a flexible pricing. The output gap turned out to be quite significant and had a positive effect on the inflation rate. These findings are in complete harmony with theoretic results.

Marina Turuntseva touched upon the issue of macroeconomic series trend assessment. The expert analyzed advantages and disadvantages of popular research methods used for estimating trend components in time series and demonstrated how it worked in a case study. Proceeding from the outputs of the analysis, Marina Turuntsev concludes that alternative approaches yield quite different estimation outputs, which fact needs to be taken into account in carrying out of applied economic calculations and a result sensitivity analysis is required.

Presentations on the reports: