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Monetary policy of the Central Bank of Iraq: Paradox of thrift in rental economy

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In a rental economy enjoying a relative surplus in its balance of payment, where consumer dominance is maximized and development aspects are neutralized, the tightened monetary policy, although achieving stability and inflation reduction to a single digit, resulted in two gaps in the economy: The first gap resulted from investing bank's surpluses in risk-free monetary policy instruments with real positive interest rate and high return resulting in what is called 'risk crowding out', leading to weakening the general credit activity. The second gap resulted from the improvement of the Iraqi dinar exchange rate, which enhanced the purchasing power of government wages with no similar increase in productivity leading to wage increase in the entire labour market, also with no increase in productivity, a principle similar to 'Baumol's cost disease or Baumol effect'; this gap contributed to economic recession, which is called the principle of 'risk crowing in'.

Finally, stability was achieved in trade of 'risk crowding in' and 'risk crowding out' that neutralized economic development activity and usage due to poor consistency among different policies.

Keywords: Central Bank; financial liberalization; inflation; monetary policy; paradox of thrift; risk crowding

Document Type: Research Article


Affiliations: Central Bank of Iraq

Publication date: November 15, 2012

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  • The International Journal of Contemporary Iraqi Studies is a new peer-reviewed, tri- annual, academic publication devoted to the study of modern Iraq. In recognition of Iraq's increasingly important position on the world stage, the time is right for a new journal dedicated to scholarly engagement with the country.
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