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A Framework for Independent Monetary Policy in China

52 Pages Posted: 21 Jun 2006  

Marvin Goodfriend

Carnegie Mellon University - David A. Tepper School of Business; National Bureau of Economic Research (NBER)

Eswar S. Prasad

Cornell University - Dyson School of Applied Economics and Management; Cornell University - Department of Economics; Brookings Institution; NBER; IZA Institute of Labor Economics

Multiple version iconThere are 2 versions of this paper

Date Written: May 2006

Abstract

As China's economy becomes more market based and continues its rapid integration into the global economy, having an independent and effective monetary policy regime oriented to domestic objectives will become increasingly important. Employing modern principles of monetary policy in light of the current state of China's financial institutions, we motivate and present a package of proposals to guide the operation of a new monetary policy regime. Specifically, we recommend an explicit low long-run inflation objective, operational independence for the People's Bank of China (PBC) with formal strategic guidance from the government, and a minimal set of financial sector reforms (to make the Chinese banking system robust against interest rate fluctuations). We argue that anchoring monetary policy with an explicit inflation objective would be the most reliable way for the PBC to tie down inflation expectations, and thereby enable monetary policy to make the best contribution to macroeconomic and financial stability, as well as economic growth. The management and monitoring of money (and credit) growth by the PBC would continue to play a useful role in the stabilization of inflation, but a money target would not constitute a good stand-alone nominal anchor.

Keywords: Exchange rate flexibility, inflation targeting, financial sector reforms

JEL Classification: E5, P2

Suggested Citation

Goodfriend, Marvin and Prasad, Eswar S., A Framework for Independent Monetary Policy in China (May 2006). IMF Working Paper, Vol. , pp. 1-52, 2006. Available at SSRN: https://ssrn.com/abstract=910676

Marvin Goodfriend (Contact Author)

Carnegie Mellon University - David A. Tepper School of Business ( email )

5000 Forbes Avenue
Pittsburgh, PA 15213-3890
United States

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
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Eswar S. Prasad

Cornell University - Dyson School of Applied Economics and Management ( email )

440 Warren Hall
Ithaca, NY 14853
United States

HOME PAGE: http://prasad.aem.cornell.edu

Cornell University - Department of Economics ( email )

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Ithaca, NY 14853-7601
United States

Brookings Institution ( email )

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Washington, DC 20036
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NBER ( email )

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IZA Institute of Labor Economics

P.O. Box 7240
Bonn, D-53072
Germany

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