A US treasury official recently gave Egyptian monetary policy-makers advice on the benefits of inflation targeting. Niveen Wahish reports "Egypt is not only making noteworthy changes in economic reforms in reducing tariffs and taxes, but also on monetary policy operations," opened up John Taylor, undersecretary for international affairs at the US Treasury, who was recently guest speaker at the Egyptian Centre for Economic Studies. Tackling the issue of "monetary policy in emerging market countries with implications for Egypt", he noted that countries which embraced policies similar to those Egypt is gradually adopting, aimed at containing inflation and increasing price stability, have witnessed fewer recessions and financial crises. Taylor pointed out that for this policy to succeed, central banks should take the goal of price stability seriously. Whether they set a numerical goal or not, they must aim for a low rate of inflation to allow for economic stability. He explained that the interest rate is increasingly becoming the tool most used by central banks in achieving price stability. If using that tool, he emphasised, policy-makers need always be on the alert. "They need to consider whether the change in the interest rate instrument is large enough or too large." Whenever an adjustment is made, he added, it must be seen as part of a comprehensive strategy and not just a one-time decision. Taylor himself calls for increasing the real interest rate in the face of rising inflation. In all cases, he believes that monetary policy decision must be communicated to the public through greater transparency. By adopting these steps, Taylor said, Egypt could achieve price stability as well and prevent a recurrence of the 11.3 per cent inflation rate Egypt has witnessed in 2004. He attributed that inflationary pressure to the depreciation of the Egyptian pound in 2003 and the revision of the consumer price index in 2004 to reflect prices more accurately. He added that Egypt's adoption of a flexible exchange rate system should enable it to manipulate the interest rate to achieve price stability. "The Central Bank of Egypt has introduced more coherence into monetary management," Taylor said, pointing to the fact that interest rates on treasury bills and other savings instruments have been raised in an effort to counter inflation. Nonetheless, he stressed that the Monetary Coordination Council, scheduled to meet later this month, should publicly commit to a clear goal for price stability. "There is no reason to postpone such actions while preparations to get better measures of inflation or better ways to forecast are underway," he said adding that "it may be sufficient for now to state what the instrument of policy will be. Addressing the issue of the repellent effect of high interest rates on investment and job creation, Taylor explained that there is no need to permanently maintain high interest rates. "Once inflation is lowered, interest rates will be as well. Interest rates will only be high during the period of transition, which can be done gradually." To address the problem of fiscal dominance, whereby the Central Bank may be reluctant to raise interest rates when necessary because the government relies heavily on debt finance, he said the solution lies in reducing government debt by restraining expenditure and at the same time making the Central Bank more independent. "The new banking law moved in that direction, but a more independent Central Bank would have a greater ability to make interest rate changes when appropriate," Taylor said. To deal with government debt and enhance economic growth, Taylor suggested that Egypt focus on reforming its banking system. He acknowledged that Egypt has begun to do so by dealing with non-performing loans, committing to privatise the Bank of Alexandria by the end of the year, and selling off public sector shares in joint venture banks. Taylor also praised the Egyptian government's other efforts to reform the economy. Yet, he said, "the reforms enacted to date are just the first stage of those necessary to bring about the growth Egypt needs. Nor will reform be quick and painless." Carrying out those reforms, he stressed, "will further improve investor confidence in Egypt".
