A study of the impossible trinity in Romania

• Main Author: Bogdan BĂDESCU
• Format: Article
• Language: English
• Published: General Association of Economists from Romania 2015-06-01
• Series: Theoretical and Applied Economics
• Subjects: trilemma; monetary policy; exchange rate; policy rate; capital flows; Taylor rule
• Online Access: http://store.ectap.ro/articole/1095.pdf

Using a VECM and a Taylor type rule it was shown that the central bank kept the autonomy of the monetary policy as the policy rate was modeled primarily based on the evolution of the inflation rate. Forgoing the exchange rate stability is not possible due to the large volume of foreign currency loans and also to other factors. The inclusion in the central bank’s objective function of a variable linked to the exchange rate may cause a conflict between inflation targeting and exchange rate management. Therefore, the best approach seems to be the use, in addition to the policy rate instrument, also of FX interventions. As for the liberalization of capital flows, the decision is at least questionable, given that, on one hand, foreign capital ended up holding a significant share in the economic activity and on the other, the macroprudential measures that authorities began to implement might have limited effects.