NBG Governor: Importance of Monetary Policy for Economic Development
Wednesday, 23 January, 2019

On Wednesday, January 23, ISET hosted the Governor of the National Bank of Georgia (NBG), Mr. Koba Gvenetadze. Mr. Gvenetadze delivered a profoundly informative lecture about the importance of monetary policies for economic well-being, discussing issues such as the importance of the price stability objective, inflation targeting frameworks (specifically why it is so crucial to avoid both deflation and high inflation), and the efficiency of monetary policy transmission mechanisms under a flexible exchange rate.

Since Milton Friedman, in his Presidential Address to the American Economic Association, presented a clear description of the role of monetary policies, economists (theorists and policymakers) have concentrated on studying the importance of price stability as a primary objective of monetary policies and designing an optimal policy to achieve it. The economic costs of high and unstable inflation can be enormous. First, high inflation creates uncertainty in prices and distorts price signals, which leads to the inefficient allocation of scarce resources. Secondly, uncertainty related to high and volatile inflation complicates long-term planning, which forces businesses to invest in short-term projects, instead of investing in more productive long-term activities. Thirdly, lower inflation reduces interest rates and contributes to financial stability. However, moderate inflation is a result of economic growth.

While high and unstable inflation sacrifices social welfare, the effects of deflation (price reduction) are no less harmful, as it leads consumers and firms to postpone spending and investment, makes borrowing more costly in relative terms, and is followed by higher inflation. Those harmful effects of high inflation, as well as deflation, are the reasons why central banks have symmetric objectives related to price stability. According to published literature and research, the optimal level of inflation for advanced economies seems to be around 1-2%, while the same measure for emerging markets reaches 2-4%.

In 2019, the NBG adopted an inflation-targeting regime as a framework for maintaining price stability. In the beginning, the inflation target in Georgia was 6%, but along with rising confidence in the policy, the target was gradually reduced to 3% in 2018, which is the desired level of inflation in the long run for Georgia. Mr. Gvenetadze considers that the introduction of an inflation-targeting framework was one of the main improvements that contributed to the low-inflationary environment.

The Governor of the NBG also discussed the benefits of the inflation targeting regime and flexible exchange rate; the importance of improving communication with the media; challenges related to financial dollarization, and de-dollarization policy measures. The openness of the President of the NBG to the opinions and questions raised by the audience made the event extremely productive, interactive, and interesting for all parties involved.