BOJ managing foreign exchange market conditions

The Bank of Jamaica (BOJ) is actively managing foreign exchange market conditions, to ensure that movements in the foreign exchange rate do not result in a significant increase in inflation.

Inflation is the general level of increases in the prices of goods and services.

The central bank’s main foreign exchange tool is the Bank of Jamaica Foreign Exchange Intervention Trading Tool (B-FXITT) through which it sells foreign exchange into the market to satisfy demand.

In an interview with JIS News at the Bank’s Nethersole Place headquarters in downtown Kington on April 1, BOJ Senior Deputy Governor, Dr Wayne Robinson explained the relationship between the foreign exchange market and inflation and how the relative stability in the foreign exchange market helps in the management of price increases throughout the economy.

“We focus on the volatility, because that is what translates to the inflationary impact. So, we do not target any level of the exchange rate, we try to manage the adjustments in the exchange rate, such that those adjustments do not have unwarranted impact on inflation,” he said.

Volatility in the market is related to large swings in the exchange rate caused by large demands and purchases that the market does not anticipate.

He explained that in the floating exchange rate system operated by the Bank, the exchange rate moves according to the forces of demand and supply.

“Because at the end of the day, what we have is a market-determined exchange rate. So, the exchange rate is going to move according to the forces of demand and supply. We don’t try to stop those forces, we just try to manage them,” he noted.

He pointed out that the exchange rate has an important impact on the movement of prices in Jamaica.

The BOJ estimates that if the Jamaican dollar depreciates by about 1 per cent of its value against the US dollar, this could add about 0.4 percentage points to inflation over a 12-month period.

“This is under normal circumstances, because what we have also found is that when the exchange rate is moving, depreciating very fast, that pass-through actually picks up,” he said.

He pointed out that the exchange rate is not the only factor that drives inflation in the economy.

“So, we have to look as well when managing inflation, is the strength of demand in the economy. Of course, as you know, price is really the result of demand and supply. If you have excess demand in the economy, prices are going to go up, so we have to look at the level of demand in the economy as well,” he stated.

He said inflation expectation, or what persons expect inflation to be in the future, also plays an important role.

“Just simply what people expect prices to be does matter, because that affects their behaviour. So, we also have to look at that. So, the exchange rate is not the only other variable, we have to look at a whole range of variables in managing inflation,” Robinson said.

He added that over the years, there has been a strong correlation between exchange rate movements and what people say they expect inflation to be.

He explained however, that over the past 20-25 years, the pass-through effect of exchange rate to domestic prices have actually fallen.

“In the early 90s, the impact of the exchange rate on inflation was much stronger than what we are seeing now. So that’s the good news. The pass-through has fallen, but it nevertheless, plays an important role in the inflation dynamics in Jamaica,” Robinson said.

He stated that over the last two years, the exchange rate has depreciated very mildly between one per cent and two per cent per year.

“That has contributed to the relatively low inflation that we have experienced over two years. In managing inflation, because we are focused on the inflation rate itself, we are not targeting any particular level of the exchange rate. So, we are not targeting 158 or 159 or 157 or 160.

“What we’re focusing on is how the exchange rate is moving. Is it depreciating too fast? Or even if it’s appreciating too fast,” he added.

The Senior Deputy Governor said that a significant portion of what is consumed locally is imported, adding that a lot of what is produced in Jamaica also requires imported inputs.

“So, movement in the exchange rate is going to affect both the cost of producing goods in Jamaica and it is also going to affect the price of final goods and services. Because of this, movements in the exchange rate are also going to affect how people perceive inflation or what they expect inflation to be,” he stated.

- JIS News

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