Exchange Rate and Inflation under Weak Monetary Policy: Turkey Verifies Theory

Refet Gürkaynak (Bilkent University)

December 5, 11:30 to December 5, 2022, 11:30

Room 2 espace conférence & online

Séminaire Banque de France


For the academic audience, this paper presents the outcome of a well-identied, large change in the monetary policy rule from the lens of a standard New Keynesian model and asks whether the model properly captures the eects. For policymakers, it presents a cautionary tale of the dismal eects of ignoring basic macroeconomics. In doing so, it also claries how neo-Fisherian disination may work or fail, in theory and in practice. The Turkish monetary policy experiment of the past decade, stemming from a belief of the government that higher interest rates cause higher ination, provides an unfortunately clean exogenous variance in the policy rule. The mandate to keep rates low, and the frequent policymaker turnover orchestrated by the government to enforce this, led to the Taylor principle not being satised and eventually a negative coecient on ination in the policy rule. In such an environment, was the exchange rate still a random walk? Was ination anchored? Does the standard model suce to explain the broad contours of macroeconomic outcomes in an emerging economy with large identifying variance in the policy rule? There are no surprises for students of open-economy macroeconomics; the answers are no, no, and yes.

JEL codes

  • E02: Institutions and the Macroeconomy
  • E31: Price Level • Inflation • Deflation
  • E58: Central Banks and Their Policies
  • E52: Monetary Policy
  • F31: Foreign Exchange
  • F41: Open Economy Macroeconomics