class 7 - ECON 3808 The Economics of Transition...

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ECON 3808 – The Economics of Transition Macroeconomics of Transition Sources: required readings and Prof. Vladimir Popov 1
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Outline Stabilization packages Demonetization of the economy, barter, non- payments, money substitutes Exchange rate based and money based stabilization Currency crisis in 1998 2
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Stabilization policy = a package of measures linked with the beginning of a reform; Measures: Price liberalization; liberalization of domestic trade; Balancing the government budget; Restrictive monetary policy; Income policy; Foreign trade liberalization; Current account internal convertibility; Devaluation of domestic currency; Simultaneously, structural measures: Privatization; Reform of banking, financial and tax systems; Social safety net; Industrial policy. 3
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Inflation Inflation remains high: Countries with best results, above 20% (except Czech Republic); Questions: Was hidden inflation totally eliminated? Why inflation was still so high? Were the policies went wrong? 7
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Inflation Effective market clearing prices? No shortages, no queues; How were they set? Result of various influences: More differentiated across each country: fragmented local markets; Black (free) market prices existing prior to transition; Foreign prices; Price-makers set their own prices: marked up their costs; Price liberalization did not affect immediately the inputs; Price increases not evenly distributed: food prices first; services prices next. Demand side: Indexation of nominal wages and contractual procedures; 9
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Inflation Supply side: Increase in material costs: Energy; Imported inputs; Increase prices by monopolistic state-owned enterprises. Excessive money supply: Targets: positive real interest rates and money supply target (IMF targets as well); Impact of high interest rates on inflation? Generalized bankruptcy; Increase inter-enterprise debt; Interest rates as costs 10
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Budgetary balance Target: tight fiscal policy; Fiscal imbalances tended to increase: Drop in output, reduced budget revenues, increased need for social expenditures; No additional ways of reducing expenditures (after subsidies and investment); Tax evasion; Ceiling target agreed with IMF; How fiscal deficits sustain inflation? No external financing; No developed financial markets; 11
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Exchange rate regime: Over-devaluation of domestic currency: Rate of exchange much below the PPP; Some countries: fixed exchange rate: Nominal “anchor” to the stabilization program and helps curb inflation; Credibility; Promoted exports; induce wasteful exports; Deter necessary imports; If inflation high, currency becomes overvalued: Floating exchange rate; Induce sharp fluctuations of nominal rate and feed inflationary expectations. 12
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class 7 - ECON 3808 The Economics of Transition...

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