I wrote: > Still, the fact is that largely -- as dd suggested > in a recent post -- these countries have sterilized > forex injections by holding them as reserves, > keeping them in the USD economy (U.S. or Eurodollar > markets). Imagine the local inflation rates if they > hadn't sterilize[d] export revenues or capital > inflows.
raghu wrote: > Why would the local inflation rates increase if the > central bank stops buying reserves? I'd think the > opposite would happen: the local currency would > appreciate causing exports to shrink and the economy > to cool down bringing the inflation rate down not up. I didn't make myself clear. Quickly, my point is *precisely* that different countries had different trajectories in their exchange rates with the USD. Looking at a period of several years, that must be due to different results in, inter alia, the sterilization of forex inflows as well as other factors. (Again, inter alia. I was trying to connect this with a point that dd made before. But I understand other factors may be at play, such as the outright manipulation of the exchange rate by the central bank regardless of local inflation -- e.g. China.) Countries that appear to have succeeded in sterilizing the forex inflows (e.g. Russia, India, Brazil) still had a residual expansion in their money supply, credit, etc. Why? Well, because in all cases their real economies grew during the period -- and faster than the USD economy. Countries that didn't succeed in sterilizing the forex inflows (e.g. Mexico, South Africa) and had more "nominal" inflation, had it due to local idiosyncratic factors. Still, even in those cases, if you adjust for the idiosyncratic factors, there is a residual expansion in M, but this one justified by the expansion of output. And this is an expansion in "real" M comparable apples-to-apples to the expansion of M in the U.S. and European Union. In plain terms, this is an expansion of purchasing power in "real terms" (or USD terms) faster than the expansion of purchasing power in "real terms" experienced in the rich countries. This justifies the punchline of the Economist's article that, as a trend, during the early 2000s, the Fed and the EU central bank progressively lost some control over global M. And let me add quickly that sterilization is, of course, more than building up reserves. You have to offset the building up of reserves (for which you pay in high-power local currency thus expanding "nominal" M) by floating debt domestically or otherwise tightening credit. I didn't make this second step explicit. I just presumed it. Thanks for the comment. I hope this is clearer.
