Customizing Central Bank Policy Frameworks

https://lnkd.in/dgPvW449 As Governor of the National Bank of the Kyrgyz Republic, I am pleased to share my article in International Banker on “Monetary Policy Modernization in Developing Countries: Kyrgyzstan’s Experience on the Path to Financial Stability and Innovation.” In the article, I explain how, over the past decade, we have pursued a balanced and forward-looking monetary framework, shifting toward inflation-forecast targeting, strengthening the interest-rate channel, and deepening the money market. We have also prioritized financial innovation, digital payments, and consumer protection as integral parts of a resilient and inclusive financial system. Despite the global economic volatility of recent years, our monetary policy has kept inflation within target and supported economic growth — all while scaling up international reserves and promoting a stable exchange rate. The story is not only about technical reforms, but also about institutional momentum, regulatory modernization, and public trust. I invite you to read the full article and reflect on the lessons for other developing economies navigating the delicate balance between stability and innovation. #MonetaryPolicy #FinancialInnovation #CentralBanking #EconomicStability #Kyrgyzstan #DevelopmentEconomics #DigitalFinance

🌱 Can Central Banks Pay Their Way to a Greener Economy? Check out our latest research introducing a novel green monetary policy tool: the Sustainability-Tiered Reserve Remuneration (STRR) scheme. The Innovation: We propose linking the interest rates central banks pay on commercial banks' reserves directly to how "green" their lending portfolios are. Banks that lend more to sustainable firms earn higher rates on their central bank reserves. Key Findings: ✅ Creates a market-based subsidy for sustainable firms through lower borrowing costs ✅ Penalizes non-sustainable firms with higher rates ✅ Works even when central bank balance sheets are large (unlike some other green tools) ✅ Potential "win-win": promotes green lending while potentially reducing central bank costs Why This Matters: As climate risks increasingly affect financial stability, central banks are exploring how monetary policy can support the green transition. Our STRR mechanism offers a scalable solution that works through existing reserve management frameworks. The theoretical model shows that banks with initially weaker sustainability profiles have stronger incentives to "catch up" - potentially accelerating the overall green transition in banking. This adds to the growing toolkit of green monetary policy instruments alongside green QE, green collateral frameworks, and targeted refinancing operations. 📄 Full paper: https://lnkd.in/gbMWmMd3 What role do you think central banks should play in the green transition? Please leave comments! Greatful to my co-author Chiara Colesanti Senni and the whole team on https://sureal.ai/ #GreenFinance #MonetaryPolicy #Sustainability #CentralBanking #ClimateFinance #SustainableFinance #ESG #Research #climatechange #Banking University of Zurich SFI Swiss Finance Institute UZH Department of Finance

"If the private financial sector adopts #tokenization on a broad scale in #wholesale_markets, #central_banks may need to participate in novel financial market infrastructures and interact with #digital_tokens to continue effectively implementing #monetary_policy. … #Project_Pine successfully created a prototype of a generic, customizable monetary policy tokenized toolkit for further research and development by central banks across different jurisdictions.   A toolkit prototype was built using #smart_contracts, and it successfully met shared requirements. … The project demonstrated that central banks could use this new technology to carry out their existing roles if tokenization is adopted. … Project Pine found that central banks could use smart contracts to easily and quickly create new facilities or adjust existing ones to optimize the implementation of monetary policy in a tokenized environment.   This could allow future central banks to be nimbler in uncertain conditions and potentially reduce frictions between the time of announcements and offerings. There might also be operational efficiencies from automating #collateral_management."   — From: New York Innovation Center at the Federal Reserve Bank of New York and BIS Innovation Hub, Project Pine: Central Bank Open Market Operations with Smart Contracts, May 14, 2025.   The full document is here: https://lnkd.in/dEWxVKkN

The Monetary Policy Trilemma: When “Simple” Becomes Simplistic Revisiting my December 2025 Business Standard piece. The current context, from the Iran shock to the sharp INR REER correction, highlights a constraint we continue to underplay: the “Impossible Trinity” is binding. No economy can simultaneously run an independent monetary policy, maintain open capital flows, and have a stable currency. Judicious choices have to be made. India’s Flexible Inflation Targeting (FIT) framework was never meant to ignore this. The 2014 Urjit Patel Committee explicitly acknowledged the constraint, even as it prioritized anchoring inflation expectations at that point in time. Yet neither MPC statements nor the RBI’s August 2025 MPC framework review explicitly recognize these trade-offs. That risks reducing a complex, multi-variable problem into a simplistic single-variable framework. The past year illustrates the point. With inflation benign, policy leaned toward lower rates alongside record RBI bond purchases. Even before the Iran episode, outcomes were visible: •           a sharp correction in INR REER (from ~107 to ~94, and now ~91) •           weak net foreign investment flows These are not coincidences. They are consistent with external balance constraints becoming binding. The suggestion that the INR should simply “find its own level” while monetary policy proceeds independently, is also too casual. Markets are reflexive. If depreciation is perceived to be tolerated, it can become self-reinforcing. At that point, the currency begins to drive fundamentals, not reflect them. The eventual cost of breaking such a vicious loop, including through harsh regulatory measures or by use of monetary instruments, can be significant. Equally, it is inconsistent to argue for a “free” currency while domestic liquidity and interest rates are being actively shaped through large-scale intervention. This is not a plea for diluting inflation targeting. If anything, recent experience argues for greater caution. There are phases where headline inflation metrics permit easier policy, but financial stability and external balance require a tighter stance. Some argue that actually, within FIT, RBI & MPC members do implicitly consider all this. If so, the more important question is this:
 If FIT was meant to enhance transparency and reduce discretion and policy errors, why are these crucial trade-offs left implicit? Bottom line: FIT brought much-needed discipline to Indian monetary policy. The coincident decline in global energy prices certainly helped. But discipline is not completeness. Until we explicitly recognize the interaction between monetary policy, financial markets and the external sector, we risk operating a framework that is internally coherent, but externally incomplete. It is time for a more rigorous and transparent debate. Complexity in macroeconomics and markets cannot be wished away or simplified into irrelevance. https://bit.ly/4ds6GUa

The Fed’s Next Big Shift? A New Policy Framework Review Is Underway The Federal Reserve has quietly launched its 2024–2025 review of its monetary policy framework. These reviews don’t happen often—this is only the second formal reassessment in nearly two decades—but they can have major implications for how the Fed sets rates, interprets inflation, and navigates employment mandates. Last week saw a Fed sponsored two-day symposium reviewing research on the topic. While the headline 2% inflation target is unlikely to be dropped, we could see significant refinements to how it’s implemented. Expect discussion of: A more structured approach to flexible average inflation targeting Greater weight on employment shortfalls—especially among underrepresented groups A clearer role for forecast uncertainty in policy communications Reassessment of inflation dynamics given a weaker Phillips Curve and slower labor force growth—particularly following Trump-era immigration restrictions. Academic research is also informing the debate—whether it’s Bernanke and Blanchard’s work on wage-push inflation or new thinking on how structural constraints are changing the labour market. This is more than a technical reset. With fiscal dominance creeping in and the U.S. economy operating under persistent supply-side frictions, the Fed’s choices now could reshape market expectations for years to come. One to watch closely. #FederalReserve #MacroPolicy #InflationTargeting #Employment #InvestmentStrategy #MarketOutlook #FedReview2025

India's Changing Currency Policy: A New Approach by the RBI The Reserve Bank of India (RBI) has recently taken a significant shift in its approach to managing the rupee, allowing for greater flexibility in the currency's movement. This marks a departure from the traditionally rigid intervention strategy that prioritized stability. But what does this mean for India's economy, and how can we interpret these changes through macroeconomic models like the IS-LM framework? The Shift in Policy Historically, the RBI actively intervened in the forex market to curb sharp volatility and maintain exchange rate stability. However, under its evolving strategy, the central bank is showing more tolerance for fluctuations, focusing on preserving foreign exchange reserves and allowing the rupee to reflect market dynamics. While this flexible approach has its merits, it also brings challenges like increased volatility and potential inflationary pressures. Economic Impact Through IS-LM Analysis Using the IS-LM model, we can better understand the effects of this policy: LM Curve (Monetary Policy): Reduced interventions mean less liquidity injection, potentially leading to higher interest rates and a leftward shift of the LM curve. This could tighten monetary conditions, making borrowing costlier. Inflationary pressures from a weaker rupee might push the RBI toward tighter monetary policies, further impacting liquidity. IS Curve (Goods Market): A depreciated rupee enhances export competitiveness, potentially boosting output and shifting the IS curve rightward. However, higher import costs due to the weaker rupee may dampen domestic consumption and investment, offsetting the export gains. Short-Term vs. Long-Term Effects In the short term, the interplay between tighter liquidity (LM shift left) and export-driven demand (IS shift right) could result in higher interest rates and moderate output growth. Over the long term, the policy could stabilize reserves and boost export sectors, but persistent inflation risks might require tighter monetary policies, affecting growth potential. What Does This Mean for Stakeholders? 1. For Businesses: Greater currency flexibility provides opportunities for exporters but increases import costs. Businesses must prepare for higher input prices and potential interest rate hikes. 2. For Investors: Increased currency volatility may deter some foreign investors, but a transparent and market-driven policy can boost confidence in the long run. 3. For Policymakers: Balancing inflation control with export competitiveness is crucial. Supporting domestic demand while managing forex reserves will require careful calibration. The Way Forward The RBI’s evolving policy reflects its intent to align with market fundamentals and enhance economic resilience. While challenges like inflation and investor confidence persist, this approach could pave the way for a more stable and sustainable economic framework.

Inflation targeting (IT) has largely succeeded in its primary objective: establishing price stability across economies, which is a fundamental precursor to prosperity. No country that adopted IT has abandoned it or expressed regrets. Only the Gold Standard has had a longer lifespan as a monetary regime. However, Borio argues that IT faces challenges. He points to two major episodes: the 2008 Global Financial Crisis and the post-crisis struggle to push inflation back to targets. These challenges led to a historic loss in policy room for maneuver, with interest rates reaching record lows and central bank balance sheets expanding dramatically before the COVID-19 pandemic. Some of these challenges might be inherent to how IT has been operated. The framework may have inadvertently accommodated the buildup of financial imbalances when inflation remained low, even as financial risks grew. The focus on inflation alone proved insufficient as a signal of economic sustainability. Looking ahead, Borio proposes several thoughtful adjustments to IT frameworks. He emphasizes maintaining low inflation targets where prices don't materially influence people's behavior. This means being more tolerant of moderate, persistent shortfalls from targets to preserve policy room for maneuver. He advocates for longer policy horizons and greater attention to financial conditions in decision-making. A key insight is Borio's emphasis on sustainability. He suggests adding this concept explicitly to how we think about inflation, output, employment, and financial stability. It's not about changing formal mandates but rather about interpreting them through a longer-term lens. Central banks need to maintain their focus on price stability while developing more robust frameworks to address financial imbalances and maintain policy flexibility. They should resist the temptation to fine-tune inflation within basis points or act as engines of growth.

How should central banks conduct monetary policy when uncertainty is unusually high? Last year, several central banks came together to reflect on that topic, and the relevance of such discussions has only become clearer in 2026, amid an oil crisis. That meeting led to a BIS volume, which I edited with Fernando Avalos and Shim Ilhyock. It contains a survey which examines how central banks adapt their decision-making processes and communication strategies when uncertainty is unusually high. Moreover, members from several central banks provided their own insights in individual chapters. A central message is that uncertainty is not simply a matter of wider forecast bands. It affects how policymakers assess risks, interpret incoming data, judge transmission mechanisms and communicate with the public. Across central banks in the Americas and beyond, the evidence points to a growing use of scenario analysis, high-frequency indicators and structured expert judgment when standard models become less informative. The volume also highlights two broader lessons. First, heightened uncertainty tends to favour a more robust and risk-management-oriented approach to policy. Second, communication itself becomes harder: central banks increasingly rely on scenarios, fan charts and qualitative assessments, while trying to remain transparent without creating false precision. Country experiences differ, but the broader themes are clear: flexibility, adaptability and credibility matter greatly when shocks are large and unfamiliar. Policymakers, researchers and practitioners interested in strengthening monetary policy frameworks may find the volume useful. 🔗 Volume: https://lnkd.in/er-YrdFN 🔗 Policy summary: https://lnkd.in/e_BpnvDd 🔗 Survey paper: https://lnkd.in/eTrEKxBd 🔗 Presentation video: https://lnkd.in/ecJ5J8_v #MonetaryPolicy #CentralBanking #EconomicResearch #MacroEconomics #OilShock #Uncertainty

𝐁𝐞𝐲𝐨𝐧𝐝 𝐋𝐂𝐑: 𝐀 𝐏𝐚𝐫𝐚𝐝𝐢𝐠𝐦 𝐒𝐡𝐢𝐟𝐭 𝐢𝐧 𝐋𝐢𝐪𝐮𝐢𝐝𝐢𝐭𝐲 𝐒𝐭𝐫𝐚𝐭𝐞𝐠𝐲 𝐚𝐧𝐝 𝐢𝐭𝐬 𝐌𝐨𝐫𝐚𝐥 𝐇𝐚𝐳𝐚𝐫𝐝 #FSI published #challenging article can be considered a #paradigm shift in the monitoring and management of banks' #liquidity_risk by central banks. The main reasons for this assessment are: ➡️ 𝐃𝐞𝐩𝐚𝐫𝐭𝐢𝐧𝐠 𝐟𝐫𝐨𝐦 𝐭𝐡𝐞 𝐓𝐫𝐚𝐝𝐢𝐭𝐢𝐨𝐧𝐚𝐥 𝐒𝐞𝐠𝐫𝐞𝐠𝐚𝐭𝐞𝐝 𝐕𝐢𝐞𝐰: The current approach views liquidity requirements and central bank support separately; the article proposes that these two be #integrated into a complementary framework. ➡️ 𝐄𝐦𝐛𝐫𝐚𝐜𝐢𝐧𝐠 𝐚𝐧 𝐀𝐜𝐭𝐢𝐯𝐞 𝐑𝐨𝐥𝐞 𝐟𝐨𝐫 𝐭𝐡𝐞 𝐂𝐞𝐧𝐭𝐫𝐚𝐥 𝐁𝐚𝐧𝐤: Instead of merely intervening in severe crises, the central bank in this new model should #proactively engage in operational cooperation with banks (e.g., through #collateral_prepositioning). ➡️ 𝐒𝐡𝐢𝐟𝐭𝐢𝐧𝐠 𝐭𝐡𝐞 𝐂𝐨𝐧𝐜𝐞𝐩𝐭 𝐨𝐟 "𝐒𝐞𝐥𝐟-𝐈𝐧𝐬𝐮𝐫𝐚𝐧𝐜𝐞": Banks are no longer measured solely by their High-Quality Liquid Assets (#HQLA), but their ability to quickly access central bank facilities also becomes part of the liquidity assessment. ➡️ 𝐎𝐩𝐞𝐫𝐚𝐭𝐢𝐨𝐧𝐚𝐥 𝐈𝐧𝐭𝐞𝐠𝐫𝐚𝐭𝐢𝐨𝐧: Requiring banks to preposition collateral and ensure operational readiness for utilizing central bank liquidity lines necessitates closer cooperation and more cohesive behavior from both parties. ➡️ For emergency liquidity assistance (#ELA) a framework with #three tiers of asset eligibility, corresponding to different levels of liquidity stress introduced which make #SLR. 🚩 𝐒𝐨𝐦𝐞 𝐜𝐨𝐧𝐜𝐞𝐫𝐧 𝐨𝐟 𝐚𝐦𝐨𝐫𝐚𝐥 𝐡𝐚𝐳𝐚𝐫𝐝𝐬: 🔴 𝐑𝐞𝐥𝐢𝐚𝐧𝐜𝐞 𝐨𝐧 𝐂𝐞𝐧𝐭𝐫𝐚𝐥 𝐁𝐚𝐧𝐤 𝐒𝐮𝐩𝐩𝐨𝐫𝐭: If banks are confident that the central bank will intervene during crises, they might have less incentive to maintain high levels of liquidity or manage risk cautiously. 🔴 𝐔𝐧𝐝𝐞𝐫𝐦𝐢𝐧𝐢𝐧𝐠 𝐭𝐡𝐞 𝐏𝐫𝐢𝐧𝐜𝐢𝐩𝐥𝐞 𝐨𝐟 𝐀𝐜𝐜𝐨𝐮𝐧𝐭𝐚𝐛𝐢𝐥𝐢𝐭𝐲: A framework that institutionalizes access to central bank liquidity might send the wrong message that any liquidity mistake or failure will ultimately be covered by the central bank. 🔴 𝐇𝐚𝐫𝐦 𝐭𝐨 𝐌𝐚𝐫𝐤𝐞𝐭 𝐃𝐢𝐬𝐜𝐢𝐩𝐥𝐢𝐧𝐞: Implicit support for all banks could blur the distinction between sound and unsound banks, thereby weakening market discipline. ⁉️ The risk of increased risk-taking by banks and the weakening of market discipline is one of the most important potential criticisms of this proposal. #FSI// #LCR// #SLR #ELA Bank for International Settlements – BIS