How Russia’s central bank adopted inflation targeting and let its currency float?

Nice interview of Elvira Nabiullina, the governor of the Central Bank of Russia. She is also the first woman to head the central bank.

She discusses how Russia adopted IT in 2014 in wake of crisis and let its currency float as well:

F&D: Inflation targeting—that is, when a central bank announces a target for inflation and manages inflation expectations through its policy actions—is often considered fairly complex and demanding for emerging market economies. What was the rationale for adopting this policy in Russia?

Looking at the experience of other countries, we saw inflation targeting as a policy that makes it possible to reduce inflation and maintain it consistently at a fairly low level. Of course, this policy can be challenging for emerging markets, because their financial markets are relatively shallow and – what is probably more important – inflation targeting requires the management of inflation expectations. This is challenging in an emerging market where the public has lived through periods of high inflation, grown accustomed to high inflation, and does not believe that low inflation can be achieved over the longer term.

Of course, there were many critics of the decision to adopt inflation targeting, because Russia relies heavily on revenue from the extraction of natural resources. Many believed that this feature of our economy would limit the effectiveness of inflation targeting. But I believe the decision was timely and warranted; indeed, the need for a transition became obvious after the 2008 crisis.

We, in any event, did not make an abrupt switch to inflation targeting. We had already begun to prepare for it after the 2008-2009 crisis. First, we developed the tools needed to refinance banks, and those tools made it possible to use interest rate policy—through the transmission mechanism—to manage inflation. Second, we gradually moved to a more flexible exchange rate: from a fairly strictly managed rate to a floating rate. Third—and very importantly—inflation targeting depends on the quality of models, projections, and analysis, so we also developed that capacity. I think that these three elements were crucial to ensuring that—in introducing inflation targeting—we were able to achieve the effects that we had promised the public.

Now, after four years of inflation targeting, I believe that this policy framework suits countries such as Russia—that is to say, emerging market economies. Many have adopted this policy, and I don’t know any examples of countries that officially switched from inflation targeting to different policies.

F&D: The exchange rate was floated at the peak of the crisis in late 2014. Were there any other good choices in that situation? And was managing the exchange rate for a while longer an option?

EN: Indeed, we had to move to a floating exchange rate during a period of elevated risks to financial stability. I am convinced, however, that this was not a reason to put off the decision. We would have simply spent some part of our gold and forex reserves and then would have needed to float anyhow.

In my view, the floating exchange rate has worked well to absorb external shocks and has facilitated a rapid adjustment of the balance of payments. We saw that again during the following cycle, in 2016. You will recall that in early 2016, oil prices fell, and thanks to the floating exchange rate, the effects on the financial markets as a whole were unremarkable.

One cannot help notice the similarity with India’s experience as well. Though, in India currency was allowed to managed float much earlier..


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