Seminar “Macedonian monetary policy evaluated trough the Keynesian Model” at the University American College Skopje
Mr. Petreski conducted this seminar with his colleague Branimir Jovanovic, who is with the Research department of the National Bank of Macedonia. He is a graduate from Staffordshire University.
Marjan Petreski is with the financial stability department of the National Bank of Macedonia. At the same time, he is a pert-time lecturer, teaching International economics, International finance, Statistics and Research methods at University American College Skopje. He is a PhD candidate at Staffordshire University. His research interest is focused on application of quantitative techniques on a broader set of issues in the monetary and exchange rate policy. He was awarded “Young Scientist of the Year” by the Macedonian Academy of Sciences and Arts (MANU).
Seminar summary
Researchers have not overlooked monetary policy in Macedonia. Some of the most notable studies include Stavreski (1997), Naumovska, et al. (2002), Bisev (2004), Petrevski (2005), Vrboska (2007). However, most of the analysis in this field is out-dated. In addition, research methods used are almost, with no exception, descriptive in nature, which can be justified, at least to some extent, with the data unavailability at the time when these studies were conducted. Therefore, with the aim to fill this gap in the existing literature, in this paper we propose a new way for evaluation of the monetary policy in Macedonia, based on sophisticated research tools - the New Keynesian model.
 
In recent years, the New Keynesian Model (hereafter, NKM) has become the main workhorse model for monetary policy analysis. Research includes, but is not limited to Casares (2007), Nelson and Nikolov (2004), Cho and Moreno (2006), Moons, et al. (2007), Lee (2009). Additionally, most of the models used at central banks for forecasting and policy analysis are New Keynesian in nature. The paper of Clarida, et al. (1999), initiated the interest in the NKM whereas nowadays two of the most popular graduate monetary economics textbooks, Woodford (2003) and Walsh (2003), are developed around the NKM.
The NKM, essentially, consists of three equations: an IS curve, which determines output behavior; a Philips curve, which captures inflation dynamics; and an interest rate rule, most often a-la Taylor (1993), which defines monetary policy. In the NKM, economic agents are classified as households and firms, and they optimize their behavior. The NKM assumes differentiated goods and monopolistic competition and allows suppliers ability to set prices. It assumes sticky price adjustment - only a certain fraction of firms can adjust prices each period. Finally, it provides opportunity for modeling the monetary policy through interest rate rules of the type used by central banks.
Since our primary objective is to evaluate the monetary policy in Macedonia, a single monetary policy rule can suffice. However, we opted for a complete, yet small three-equation model, for at least two reasons: first, a three-equation model estimation seemed to provide more accurate estimations of the policy rule, which is, given the lack of data, a major advantage; second, the three-equation model would enable us to examine the effects of alternative policy behavior on the economy, i.e. output and inflation.
The monetary policy rule we use in the model is designed to account for the specifics of the monetary policy in Macedonia. Namely, because Macedonia follows a strategy of a fixed exchange rate, monetary policy is modeled as a modified Taylor-type rule, which includes, in addition to output and inflation, the foreign exchange reserves. Foreign exchange reserves are included in the monetary policy rule to investigate both their role as a constraint to monetary policy, and as a high frequency indicator, that captures important information for the external sector. As the exchange rate is pegged to the euro, pressures on the foreign exchange market, which would translate into foreign reserves decrease, could prevent monetary authorities from pursuing their primary targets - inflation and output. Additionally, as Macedonia is a small and open economy, its performance depends, largely, on the external sector, and data on foreign exchange reserves contain important information for the external sector in real time.
Due to the potential endogeneity, as conventional in the literature, we estimate the model using the Generalized Method of Moments (GMM) over the period 1997-2009, using monthly data. However, instead of estimating the model equation by equation, we estimate it as a system of equations. In this way, we exploit interactions between individual equations and end up with more precise estimates.
Our general finding is that despite the fixed exchange rate regime, Macedonian central bank has had a space for independent monetary policy, i.e. has exhibited some form of inflation and output gap targeting. However, official reserves have been a crucial determinant of the reference interest rate. Moreover, when we divide the sample on two sub-samples, to analyze the monetary policy under the two governors in the covered period, we find that there have been notable differences in the conduit of monetary policy, in the course of the aggressiveness towards inflation and the consideration of output fluctuations. Finally, for each of the governors, we construct the path the interest rate would take if monetary policy were to behave as under the alternative governor, and analyze the implications of this for the inflation and the output.
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Mitropolit T. Gologanov 42, Floor III, 1000 Skopje
