INFLATION TARGETING IN SERBIA-THE PAST TEACHES US, WHILE THE FUTURE BINDS US

U ovom radu će biti reči o uslovima u kojima se primenjivao režim targetiranja inflacije u Srbiji, dosadašnjim rezultatima Narodne banke Srbije na tom planu, kao i o tome šta smo naučili a šta promenili u samom konceptu vođenja monetarne politike. Osvrnućemo se pritom na aktuelne debate koje se vode u stručnoj javnosti u mnogim zemljama o targetiranju inflacije kao teorijskom konceptu, o njegovoj „nadogradnji“ koja je proistekla iz prakse, kao i o ocenama dometa njegove primene u Srbiji. Ocenjujući na bazi postignute i očuvane cenovne i finansijske stabilnosti i to u uslovima prisutnih rizika iz međunarodnog okruženja, nedvosmisleno se može zaključiti da je primenjeni okvir politika Narodne banke Srbije bio adekvatno postavljen i da je dao željene rezultate.


Introductory remarks
The National Bank of Serbia (NBS) has been officially implementing the inflation targeting regime as its main monetary policy strategy since 2009.Where are we today, eight years since its inception?Has the NBS achieved its objectives or does the policy direction it has pursued so far warrant their achievement?Are the results of a central bank measured by the degree of implementation of an adopted mandate or, on the case-by-case basis, are the operations of the key monetary and financial institution valued by other, secondary parameters, such as the annual income statement only for the purpose of levelling ungrounded criticism at the Bank?Are the results achieved instantly in an economy or does this process take time?Are the results that we have defined general and immutable axioms or should central bank mandates be adjusted to the interplay of relations in the domestic economy and the global ambience, correcting and supplementing them only when deemed necessary?Answers to these questions should be sought at three levels -in talks with economic experts, by listening to vox populi, and by posing an objective, selfcritical and unbiased question -is that what we aspire to and believe will bring the best to the domestic economy and our citizens.
However, many world-renowned theoreticians are increasingly asking the question of the justifiability of the theoretical and initial model of inflation targeting with a numerical value of the inflation target as the only objective and the key policy rate as the only monetary policy instrument.On the other hand, for a longer time already, monetary policy makers have been confident that the initial postulates of this regime have been, in time and fully justifiably, "upgraded" with experience from practice.Furthermore, the financial crisis has confirmed what was indubitable even before the crisis -in addition to price stability, the preservation of financial stability is an important prerequisite for ensuring overall macroeconomic stability (Bernanke, 2011, p. 4), (Blanchard et al., 2013, p. 6), (Brunnermeier at al., 2014, p. 70), (Woodford, 2012, p. 3-4).We have concluded, or more precisely we have confirmed through the results achieved, that in economies featuring a relatively high degree of euroisation the relative stability of the exchange rate is an important pillar of financial and overall macroeconomic stability.
This brings us back to the first years of the introduction of the inflation targeting regime (the early 1990s), when assessments prevailed that inflation targeting, as a monetary policy regime, was compatible only with a freely floating exchange rate.Allowing a free float was considered a test of commitment to the inflation targeting regime.At the same time, financial system stability and prevention of excessive risk assumption by economic agents are ensured through prudential and supervisory measures (Tabaković, 2017).The question is therefore asked how we have arrived here today, with a somewhat altered mix of instruments.The answer is relatively simplethe changed operating conditions have shown that theoretical models per se do not cover all premises of real life, which is why they should be adapted and supplemented.External shocks and volatile capital flows have particularly exacerbated the decision-making process in developing economies (Ostry et al., 2012, p. 14).Furthermore, in euroised economies, foreign exchange interventions, applied according to the theoretical model of "pure" inflation targeting only in the case of necessity, have become in practice an efficient mechanism mitigating the strong spill-over effect of the exchange rate to prices, while at the same time serving as a bulwark for preserving financial stability.It has become clear that a classic inflation targeting regime should be adjusted to the new circumstances, with monetary policies being changed and adapted in such a way that decision-making and the choice of an adequate mix of instruments are determined both by assessments of domestic fundamentals and developments in the international environment.
Inspired by the topical debates and in an effort to give our estimate, we shall elaborate in this paper on the main postulates of inflation targeting, the conditions in which such regime has been applied in Serbia, the results that the NBS has achieved so far in this field, the attained coordination of policies, the changes we have made and lessons learned.And we have doubtless learned that it is not sufficient
Inflatorni pritisci su trajnije suzbijeni tek kada je donet kredibilan program fiskalne konsolidacije i kada je obezbeđena puna koordinacija mera monetarne i fiskalne politike, što je rezultiralo i smanjenjem interne i eksterne neravnoteže i doprinelo i relativnoj to merely talk about the necessity to coordinate policies, but that it is truly indispensable to ensure their full coordination.

Inflation targeting elements as a monetary strategy
Inflation targeting regimes were adopted at the global level following the complete or partial failure of the earlier strategies (targeting the nominal interest rate, monetary aggregates, the exchange rate…).
An inflation targeting strategy consists of a number of elements: • statutory obligation to achieve and maintain price stability, defined as the main, longterm objective of monetary policy; • disclosure of targeted inflation values; • calibrating and making decisions primarily based on the projected inflation trajectory and information on a large number of different variables; • monetary policy transparency in regard to decision-making and achievement of objectives; • transparency in regard to explaining the factors causing temporary deviation from the target and decisions to be taken to bring inflation back within the target band.The central banks implementing the inflation targeting regime use different channels of communication to explain to the public and financial market participants: (1) monetary policy objective(s); (2) monetary policy scope -each policy has its scope; it is only through policy coordination that durable and sustainable results are achieved; (3) numerical values of targeted inflation rates in the medium term; (4) the reasons why achieved inflation deviates from the inflation target; (5) instruments and measures to be used to achieve the target given the projected inflation movements.This facilitates planning for market participants because uncertainty as to monetary policy, interest rates and inflation is diminished.In addition, market participants become more aware of what can be achieved with monetary policy.
Until the start of the global economic crisis, a large number of central banks, both of developed and developing countries, defined price stability as the primary objective of their monetary policies.They achieve this objective within the inflation targeting regimes befitting their respective economies.A consensus has almost been reached that this regime contributes the most to macroeconomic stability.In the first years of its introduction, the inflation targeting regime as a monetary policy framework was generally assessed as compatible exclusively with a freely floating exchange rate.Central banks have the single primary objective -low and stable inflation in the medium run, and the single basic instrument -the policy rate (Blinder et al., 2016, p. 4), while allowing a free float was considered a test of commitment to the inflation targeting regime.However, time and practice have shown that theoretical models can never incorporate all premises of real life, which is why we have to constantly re-examine, supplement and adjust them.Furthermore, in small and open economies with an inherited high degree of euroisation, time and practice have confirmed that well-calibrated FX interventions have successfully played the absorption role, i.e. they served to mitigate inflation volatility triggered by exchange rate oscillations.They also served as the bulwark for the preservation of financial stability.As a result -"pure" inflation targeting has been upgraded today.

Inflation targeting in Serbia
Numerous external shocks and the changeable conditions in the domestic market have doubtless affected the achievement of the inflation target in the first years of implementation of the inflation targeting regime.In 2009 -the first year of application of the regime, inflation moved within the target band, apart from October and November when it fell below the lower bound.In October 2010, inflation exceeded the upper bound of the target tolerance band.The key factor behind its growth in the 2010-2012 period was the vigorous growth in the prices of primary agricultural commodities, which spilled over to food prices and inflation expectations of economic agents.In combination with depreciation pressures, this triggered a relatively strong rise in y-o-y inflation.

Narodna banka Srbije je konstantno vršila unapređenje: • Utvrđena je praksa da se odluke o referentnoj kamatnoj stopi donose se na redovnim sednicama Izvršnog odbora na bazi ocene delovanja ključnih faktora inflacije, kako iz domaćeg tako i iz međunarodnog okruženja.
Odluke o referentnoj kamatnoj stopi se donose na osnovu srednjoročnih projekcija inflacije kao i ukupne ocene makroekonomskih kretanja, pri čemu uzimamo u obzir i to da u njenom delovanju postoji vremenski pomak, tj. a credible fiscal consolidation programme and when full coordination of monetary and fiscal policy measures was ensured, which led to the narrowing in internal and external imbalances and contributed to relative stability of the dinar exchange rate.Within a year, inflation was lowered by 10 pp -from 12.2% at end-2012 to 2.2% at end-2013.Over the following three years, inflation was continuously kept at a low level.Thus, in terms of the achieved price stability, Serbia became comparable to other European countries.Since then, inflation has not been subject to frequent discussions, unless in the case of seasonal price hikes for some products and services (see Text box 1 in Inflation Report -February 2017).
From March 2014 to early 2017, inflation moved under the influence of both domestic and global factors.In terms of domestic factors, low inflationary pressures were fuelled mainly by fiscal consolidation effects, relative stability of the exchange rate and low (anchored) inflation expectations of the financial and corporate sectors.External factors also contributed to low inflationary pressures, chiefly due to the unexpectedly strong disinflationary pressures generated by the falling prices of oil and primary agricultural products in the world market, which induced inflation to move below the lower bound of the corridor.
In the latest Global Competitiveness Report of the World Economic Forum, Serbia holds the first place together with other countries whose inflation rates moved in the previous year in the 0.5-2.9%interval.Given inflation movements in 2016 and our projections until end-2017, in the coming period Serbia should remain first-ranked according to this criterion, i.e. we expect inflation to remain low and stable this year as well.
Owing to the fact that price stability has been achieved and preserved in the past three years, and that macroeconomic fundamentals and the outlook for our economy have improved significantly for the period ahead, as well as that inflation expectations of the corporate and financial sectors have been moving between 2% and 3%, i.e. around the new target for a longer time already, the decision was made to lower the inflation target to 3±1.5% starting from 2017, which will be elaborated in detail in this paper.

Adjusting monetary policy instruments
The adoption of initial achievements and preparations for the inflation targeting regime from August 2006 certainly contributed to the regulation of monetary policy instruments in a market-based way, and to higher transparency of monetary policy and efficiency of its implementation.
Defining the key policy rate as the main monetary policy instrument and determining the main operations at single maturity auctions (at the time 14 days, now 7 days) brought about a clear and transparent instrument as in the prior period the NBS organised securities auctions at different maturities, which is why their signalling effect was insufficiently clear.
The NBS has constantly made the following improvements:

• Practice was established that decisions on the key policy rate be made at regular meetings of the NBS Executive Board based on the assessment of effects of the key inflation factors, both from the domestic and international environment.
Decisions on the key policy rate are made based on medium-term inflation projections and da pune efekte na inflaciju daje otprilike nakon godinu dana.Praksa je potvrdila da je najefikasniji režim targetiranja inflacije onaj u kojem se dozvoljava privremeno odstupanje inflacije od utvrđenog cilja kako bi se izbegle oštre promene u monetarnoj politici koje mogu da izazovu makroekonomske poremećaje.To se odnosi na slučajeve odstupanja izazvanih većim i neočekivanim promenama cena, poput npr.cena primarnih proizvoda.

• Calculation of required reserves was
simplified -averaging was introduced, facilitating liquidity management by banks.Furthermore, the required reserves maintenance period was adjusted with the key dates relating to liquidity inflows and outflows.At the same time, the policy of differentiated required reserve ratios, depending on the currency and maturity of banks' sources of funding, gave support also to dinar sources of funding, i.e. the process of dinarisation of the financial system and longer-term sources of funding.Furthermore, together with the Ministry of Finance the market of dinar securities was developed and the dinar yield curve was formed -it currently reaches ten-year maturity and is an indispensable precondition for the further improvement and development of the financial market in Serbia (as the basis for valuing financial assets).

Interventions in the FX market
Despite the fact that price stability was ensured and financial stability preserved, interventions in the FX market were the motive for a not so small number of complaints about NBS operations in the past four years.Still present today -in the face of the results of relative stability of the exchange rate supported by significant strengthening of the domestic economy and the narrowing in internal and external imbalances -are the statements and assessments about "targeting a particular level of the exchange rate", aspirations to "an interventionist monetary policy" and disabling normal and free functioning of the market.Such ideas also give rise to the notions that the central bank should abandon the inflation targeting regime and embrace the exchange rate targeting as a monetary strategy.It seems that proponents of such assertions are forgetting that the regime of the fixed exchange rate was applied in Serbia several times in the past, but without success.The idea to switch to the inflation targeting regime thus came to the fore in 2006 when it became obvious that the then regime of a fixed real exchange rate was unsustainable.As relative stability of the real exchange rate was achieved through concurrent nominal depreciation of the dinar and high obezbediti platnobilansna održivost, deficit tekućeg računa platnog bilansa povećan je sa oko 4% u 2002.na blizu 10% u 2006.godini.
Generally speaking, if we observe the movements in the nominal exchange rate of the dinar, it is possible to isolate a period when the impact of external shocks caused considerable oscillations in the exchange rate (often towards depreciation).Though nominal depreciation absorbed a portion of the shocks and allowed the domestic economy to adjust more easily to the new circumstances, at the same time uncertainty was created in the business and investment environment, which had a restricting effect on future growth.Also, nominal depreciation of the exchange rate drove inflation up in certain periods, leading to additional deterioration in the macroeconomic environment.Compared with the movement of the real effective exchange rate and exports of countries in the region (like Croatia, Montenegro, Macedonia), we do not see the link we expected to find based on economic theory, i.e. that in periods of real depreciation of national currencies, exports did not always rise considerably and the appreciation of the real effective exchange rate did not lead to its reduction.Hence, we could conclude that price competitiveness was not the decisive factor affecting export movements in the observed countries, and that the exchange rate can be used to improve export competitiveness only in the short run and only to the extent in which it does not jeopardise macroeconomic stability.Therefore, the underestimated dinar, which is often perceived in various circles as the panacea (although the proponents of this solution do not offer any reasoning to back their proposals), is not a recipe for sustainable growth (and it is well-known that there are no universal solutions -other than stability) considering that it facilitates the narrowing of external imbalances only in the short-term, as was the case in 2009.To put it differently, it is only the rise in productivity, coupled with new investment, that can keep us on the path of sustainable growth and increased employment.Moreover, an analysis of movements in Serbia throughout 2016 -a year marked by global uncertainties -indicates two-digit growth rates in the exports of goods and services, and preserved relative stability of the exchange rate.Such export growth was facilitated by the activation of earlier investments which increased primarily owing to the achieved macroeconomic stability, improved investment ambience, implementation of structural reforms and the consequent inflow of foreign direct investment.
In addition, taking into account the amount of FX reserve holdings, as well as the still present foreign trade deficit, the introduction of a fixed exchange rate does not seem like a realistic option, that is to say, the price would be too high.In such circumstances, any form of pressure from the external environment could affect the need for FX interventions and lead to a reduction in FX reserves.The country could awake to an ambience of speculative attacks on the domestic currency, which would exert pressure on the credibility to achieve the main objective.The narrowed manoeuvring space would lead to the exhaustion of FX reserves or to a devastating realisation that the set exchange rate cannot be defended -a situation which we saw in Latin American countries.
Ipak, upućeni znaju da Narodna banka Despite the relatively high costs of monetary policy, over the past ten years the NBS operated for the most part with a positive financial result.(Table 1) However, the NBS was often criticised because of the costs of absorption, while the results achieved in terms of the preservation of price and financial stability were neglected, including multiple benefits for the real sector which are secured through the achievement of price stability and the relative stability of the exchange rate.The central bank's financial result was often brought to the foreground and particularly the year 2013 when outstanding results were achieved with regard to monetary policy objectives.Year-on-year inflation was brought down from 12.2% to 2.2%, the dinar exchange rate was kept relatively stable throughout the year and financial stability was maintained at a high level.And yet, many focused only on the loss of around RSD 44 bln.The rather low interest rates in international markets which even touched on the negative side and at which FX reserves were invested (considerably lower revenue was garnered on this account than in earlier years) were "unjustified" in the opinions of resident critics.Additionally, the fact that the situation in the FX market was soothed was also disregarded this time because when the NBS's monetary activities turn out to be efficient, they look for other motives to come up with objections.
Ono što je nasleđeno bilo je stanje visokih kamatnih stopa, uz nedovoljnu zainteresovanost investitora da ulažu na duže rokove i u kapitalne projekte.Takvi uslovi poslovanja opterećuju privredu.Spuštanjem inflacije i uravnoteženjem inflacionih očekivanja stvoreni su preduslovi za monetarnu relaksaciju i niže troškove, a većom stabilnošću na deviznom tržištu smanjena je neizvesnost poslovanja.Prethodna -2016.godina završena je sa dobitkom od 49,2 mlrd dinara.showed that the years with the lowest exchange rate fluctuations were the ones when a modest positive or a negative result was achieved (Chart 4).This example revealed the relative incompatibility of overall objectives and the fact that the price of consistent and successful monetary policy conduct, under certain circumstances, can be very high from a financial point of view (Chart 5).An institution which is non-profit making by definition was criticised for the negative financial result in one out of many successful years, at the expense of the achievement of set objectives -even this very sentence sounds like a paradox.

Ciklus smanjenja referentne kamatne stope
The inherited state-of-affairs included high interest rates, with insufficient investor interest to make long-term investments and investments in capital projects.Such business conditions are a burden to the economy.With a lower inflation and more balanced inflation expectations, preconditions were created for monetary relaxation and lower costs, whereas increased stability in the FX market reduced the uncertainty in the business environment.Last year -2016, ended with a profit of RSD 49.2 bln.

Cycle of key policy rate cuts
Owing to monetary policy tightening in the period June 2012 -February 2013, the achieved relative stability of the dinar exchange rate, adoption of the fiscal consolidation programme, as well as full coordination of monetary and fiscal policy measures, inflationary pressures were subdued to a more lasting degree and a cycle of monetary policy easing could begin.
The cycle of key policy rate cuts was initiated in May 2013.In the following period, the key policy rate was trimmed by 7.75 pp to 4%, its lowest level in the inflation targeting regime.Together with the subdued macroeconomic uncertainties and risks, this proved critical for the reductions in rates on dinar loans to the private sector, which fell by around 10 pp to 5.4% for new dinar loans to corporates since mid-2013, and to 10.85 for dinar loans to households at end-2016.As for corporates, such interest rate cuts imply lower operating costs, better financial results and funds for new investments.As for households, lower interest rates lead to higher available income and, consequently, poboljšanju finansijskog rezultata i obezbeđenju sredstava za nove investicije.Za stanovništo, pad kamatnih stopa vodi većem raspoloživom dohotku i posledično većoj potrošnji.To je direktan efekat kanala kamatnih stopa preko kojeg je Narodna banka Srbije doprinela nižim troškovima poslovanja, a time i postepenom smanjenju negativnog proizvodnog jaza ekonomske aktivnosti.
higher spending.This is the direct effect of the interest rate channel through which the NBS managed to ensure lower operating costs and, in turn, gradual narrowing of the negative output gap.
Such considerable drop in loan rates, together with the funds released on account of reductions in FX reserve requirements, facilitated the recovery of lending which in 2015 posted higher-than-expected growth of 1.8% y-o-y.Lending continued to grow at a similar rate in 2016 (1.9% y-o-y), primarily owing to the effects of past monetary policy easing and accelerated growth in economic activity despite stepped up activities of banks to resolve the issue of NPLs through write-offs and a sale of a portion of such receivables to non-banking sector entities.
Owing to significant fiscal adjustments and the government's subdued needs for financing, as well as the cuts in the NBS key policy rate, the cost of government borrowing in dinars was also reduced, most notably since early-2015.Since then, over a period of less than two years, interest rates on dinar government securities declined by around 5 pp, reflecting positively on the fiscal deficit and the country's lower risk premium.

Lower inflation target -confirmation of the results achieved
One of the most important decisions which the NBS made over the past several years together with the Serbian Government was the decision to trim the inflation target by 1.0 pp to 3.0% ± 1.5 pp as of 2017.
The decision was endorsed mainly by the significantly improved macroeconomic fundamentals and the prospects of the Serbian economy for the period ahead.Outstanding results of fiscal consolidation, narrowing of internal and external imbalances, implementation of reforms and improved business ambience, along with a full coordination of monetary and fiscal policies and Serbia's lower investment risk all guarantee that over the medium term inflation will move within the bounds of the new, lower target tolerance band.Another reason for revising the target down was the fact that price stability has been achieved and that for the past three years inflation in Serbia was at a low and stable level, comparable to that of developed economies and consistent with the new target.The decision to change the target was also grounded in the lower and, for some time now, relatively stable inflation expectations of the financial sector and corporates, which at the same time confirms the increased credibility of the NBS's monetary policy.These sectors expect two-year ahead y-o-y inflation to move between 2.0% and 3.0%, which is close to the new target and facilitates its achievement.In addition, over the last three years, administered prices rose at a much slower pace than earlier.Namely, until 2013 administered prices increased by around 10% a year, with a 2 pp contribution to inflation, whereas in the last three years and in 2016 they rose at a much slower rate which in 2016, for instance, equalled 2.2%, with an 0.4 pp contribution to headline inflation.As this change was the result of the Government's determination to resolve inefficiencies in the operations of public enterprises primarily by cutting down business costs, and not by increasing the price of the goods and services of those enterprises, as was the case earlier, the rise in administered prices should remain relatively low in the coming period (at around 4% on average).
With the lower target, the NBS and the Government confirm their firm commitment to keep Serbia in the group of European countries running low and stable inflation.Given the lower inflation target, we could expect uncertainties in the operations of enterprises to abate further and the investment climate to improve because, as a rule, lower inflation leads to its more stable movements.In January 2017, y-o-y inflation was 2.4%, which means that it was within the target corridor.In the coming period we expect it to remain therein, as indicated in the NBS's latest mid-term inflation projection (Inflation Report -February 2017).

Concluding remarks
We do not need models, theories or books to conclude that the best method for a central bank to contribute to sustainable economic growth is precisely by ensuring price stability in the medium run and maintaining a stable and sound financial system.Low and stable inflation contributes to ensuring longterm macroeconomic stability by reducing uncertainty and creating an ambience more conducive to business and investment, which in turn contributes to the relative stability of the exchange rate and helps reduce unemployment.Any effort to stimulate the economy on unsustainable grounds could impede the achievement of the said goals and instead lead to deterioration in the business environment, increase the country's risk and in turn bring about higher costs of borrowing.At the same time, monetary policy makers are aware that there is no ideal monetary policy regime, but rather a monetary regime with the fewest drawbacks.Central banks opt for inflation targeting as their monetary strategy having in mind that achieving the inflation target ensures not only price, but also overall macroeconomic stability.At the same time, inflation targeting is the least harmful to economic growth, as it allows for a sufficiently flexible monetary policy, while greater transparency of this regime helps to better anchor inflation expectations.
The global financial and economic crisis showed just how strong external shocks can be, how volatile capital flows can become, and also how mounting imbalances can deepen.The volatility of capital flows in emerging economies shook the belief that a flexible exchange rate is self-sufficient to absorb shocks.We are increasingly leaning to the standpoint that flexible inflation targeting should include interventions in the FX market -however, not in the sense of targeting a specific level or range of the exchange rate, but in terms of preventing strong deviations of the exchange rate from the level that is consistent with economic fundamentals and in line with the preservation of macroeconomic and financial stability.
Numerous challenges at home and external shocks that our monetary policy faced during the implementation of the inflation targeting strategy made it more difficult to assess the success of the strategy.During the first stage of implementation (implicit inflation targeting), the key challenge was weak credibility of monetary policy and weak transmission through the interest rate channel.Gaining credibility was a particularly difficult task given the tempestuous hyperinflation history and the extremely high inflation expectations.Still, by acting responsibly, consistently and transparently (which is the essence of the inflation targeting regime) and by bringing inflation to the level that is deemed appropriate and encouraging economic growth, the NBS managed to restore the credibility of its monetary policy measures.
Uvažavajući karakteristike domaće ekonomije (stepen otvorenosti ekonomije od preko 100% BDP-a mereno učešćem izvoza i uvoza) i ostvarene rezultate, naša ocena je da je Narodna banka Srbije odabrala jedini mogući režim monetarne politike -targetiranje inflacije.monetary policy instruments, avoiding or reducing risks to financial stability.However, as in other emerging economies, the central bank in Serbia has a complex task as monetary policy is pursued amidst great uncertainty in the international financial and commodity markets, and in the face of diverging paths of monetary policies of the leading central banks.This can lead to volatile and consequently destabilising capital flows, and hence to pressures on the exchange rate which has an important role in preserving macroeconomic and financial stability, particularly in euroised economies.The formula behind saying or claiming that excessive or sudden depreciation can increase the burden of the FX-denominated debt is quite simple.
And so, the global financial and economic crisis has clearly re-confirmed the fierce impact of external shocks and volatile capital flows, and how easily turbulences from the global financial and commodity markets can spill over onto other countries, particularly those with prevailing internal and external imbalances.Being a small and open economy, Serbia is exposed to external shocks, over which, by default, it has no control.Yet the extent to which external shocks will affect us depends on how timely and adequately we respond, what measures we take and how efficient they are.This is precisely why the NBS closely monitors and assesses developments in the international environment and responses of other central banks, and calibrates its own decisions, mindful of how this will affect not only the achievement and preservation of low and stable inflation, but also the preservation of financial and overall macroeconomic stability.This is why we combine our instruments -the key policy rate, open market operations, the required reserve ratio and interventions in the FX market -to lower volatility and ensure market stability, thus helping to maintain price and financial stability, and so support the economic policy of the Government to the extent that it does not endanger our goals regarding stability.The achieved and preserved price and financial stability in the face of risks emanating from the international environment clearly indicates that the NBS set up an adequate policy framework and that it has yielded the desired results.The preserved low and stable inflation over a threeyear period, plummeting interest rates on new and existing loans from May 2013 onward, a rise in credit activity, ensured and preserved relative stability of the exchange rate and anchored inflation expectations all confirm that the NBS measures have strongly helped create conditions more favourable for business and investment, household consumption and savings, and consequently contributed to economic growth on sustainable foundations.
Taking into account the specificities of the domestic economy (the degree of openness of over 100% of GDP measured by the share of exports and imports) and the results achieved, it is our assessment that the NBS has opted for the only possible monetary policy regimeinflation targeting.
Inflation targeting in Serbiathe past teaches us, while the future binds us

Switching to the auction model with a variable interest rate while limiting the volume of liquidity being absorbed at repo auctions, adopted in late 2012, implied
is not a profit-making institution, and that the financial result is a matter of calculations and an accounting category.A historical comparison of net exchange rate differences (which in 2003 were the largest contributor to the negative financial result)