A

fter the global financial crisis of 2007 and beyond, unconventional monetary policy has become a prominent topic among central bankers. The reason behind this emphasis on unconventional monetary policies is that during economic downturns, conventional monetary policy transmission mechanisms may not work properly. This was more obvious in advanced economies during the recent economic crisis.

According to a former member of the executive board of the European Central Bank, Lorenzo Bini Smaghi, there are two main characteristics of unconventional monetary policy measures. First, unconventional measures may include a broad range of tools that are intended to ease financing constraints. Second, policymakers should be watchful of the possible side effects of these measures on the financial soundness of the central bank'€™s balance sheet as well as problematic exit mechanisms on normal market functioning.

For developing countries, the necessity of unconventional monetary policy is even more pronounced because of the existence of structural problems related to the price side, especially from the supply side of the economy. With this in mind, it is imperative that unconventional monetary measures be adequately considered.

The embrace of macro-prudential supervision represents a reversal of another pre-2007 trend '€” for central banks to shed supervisory duties and concentrate on monetary policy (The Economist, 2011).

It is well known that the main cause of inflation in developing countries, including Indonesia, is supply-side issues such as production, distribution and transportation. Meanwhile, poverty and unemployment rates remain stubbornly high. In such conditions, further studies need to be done on the effects of the situation toward a smooth implementation of monetary policies.

Under certain circumstances, this policy may be perceived to worsen the economic conditions, and slow down economic growth in a way that may hamper job creation and poverty-reduction programs. In the end, this presents a challenging setting for policy options.

Indonesian economic and political reform since 1998 has changed much of the political and economic landscape.

One of the fundamental institutional and policy reforms was the creation of an independent central bank, Bank Indonesia (BI), separated from the government, which at the same time has effectively introduced a single goal of achieving and maintaining currency stability.

It was generally believed that price stability was a precondition for sustained growth and employment and high inflation would damage the economy in the long run. Even though this focus on inflation containment has been well-regarded by many experts and academic alike, there remains a huge gap between the theories of mainstream central banking with economic realities on the ground.

As James Heintz, a research professor at the Political Economy Research Institute, University of Massachusetts, puts it, employment creation have dropped off the direct agenda of most central banks.

In the context of Indonesia, the existence of this gap has created the impression that the central bank is lacking the sense of social responsiveness it used to have prior to the 1999 reform.

Another fundamental reform that affected the effective implementation of monetary policy was the introduction of a decentralized government when much of the actual economic power is distributed across regions and cities. The decentralization of fiscal economic policy has left an empty monetary policy area at the level of regional governments, as monetary policy and authority remains centralized, exacerbating the delicate situation of policy interplay between centralized monetary policy and much of decentralized fiscal policy.

This situation is certainly important to consider because of existing massive structural problems at the regional level, including poor infrastructure, weak coordination among related agencies, conflicting regional rules and regulations with the central government, etc.

Faced with those realities, BI, within its legal constraints, has to adopt extensive interpretations of its mandate.

More flexible and responsive policy is certainly a must if we aim to catch up with the progress and welfare of developed economies. In the context of Indonesia, BI has to embrace the broader interpretation of its inflation mandate to include both supply and demand sides, a conundrum that pushes the central bank to better engage in supply-side issues.

The engagement may relate to policy coordination and formulation as well as directly supporting the level of productivity and distribution of certain volatile products that are calculated in the inflation basket.

On the policy side, BI has taken the initiative to establish an '€œinflation-controlling team'€ at central government level as well as with the regional governments across the country.

These teams were established to improve policy coordination among related agencies at the central as well as regional level to deal with inflation issues.

Recent external conditions have pressured the government and Bank Indonesia to come up with '€œbreakthrough approaches'€ both in fiscal and monetary policy to speed up the process of dealing effectively with structural problems of poverty, unemployment, economic competitiveness and trade balance. This will require more intensive coordination between monetary and fiscal authorities.

Trying to draw a closer link between BI and the government in the conduct of macro-policy is justified on the grounds of the severe fundamental economic problems of developing countries.

There is an urgent need to create complementary policies that will reinforce the policies made by
each respective fiscal and monetary authority.

With every possible policy being open, it is not impossible to resolve the problem of inflation, while at the same time dealing with poverty alleviation and job creation.

This kind of policy coordination will certainly work in the field, provided that the program is introduced with a deep consideration of each individual core function and with certain degree of a macro and micro prudent policy supervision.

Bank Indonesia'€™s calculated risky adventure beyond traditional central banks'€™ explicit mandates may or may not be rewarded, but at the end the successful endeavor of any central bank will depend on the benefits people receive. As Fabian Amtenbrink puts it: '€œMonetary policy is not a goal in itself, but rather serves the public interest.'€

We expect the current House of Representatives to be in favor of re-introducing the multiple goals of the central bank mandate, to include the role of the central bank in economic growth and employment creation.

Amid a striking changing global economic environment and acute domestic structural problems the central bank may not just have to rethink its tools, it may also have to rethink its goals.