loi m bakani : commodity and food prices, inflation and monetary policy in papua new guinea presentation by mr loi m bakani, governor of the bank of papua new guinea, to the national research institute food security policy conference on “ high food prices in papua new guinea ”, port moresby, 6 september 2011. * * * i wish to express my gratitude to the national research institute for arranging this conference on food prices in papua new guinea and for inviting me here today to make a presentation. i would also like to thank other policy makers and specialists working in this crucial field. today i will be discussing global commodity and food prices, how this has affected inflation in papua new guinea, and how the bank of papua new guinea has responded to these issues. international commodity price boom since 2004, global commodity prices have increased substantially, largely due to increased demand in resource - intensive emerging economies such as china, which has outstripped global supply. other factors have supported this boom, including low interest rates, a weaker us dollar, and arguably some speculation. international food prices increased at a slower pace during this period until they surged in 2007 and again in 2010, largely due to supply constraints. prices indices of food and png's exports ( usd ) international food price png mineral export price png non - mineral export price q 20 1 q 20 3 q 20 1 q 20 3 q 20 1 q 20 3 q 20 1 q 20 3 q 20 1 q 20 3 q 20 1 q 20 3 q 20 1 q 20 3 q source : food and agriculture organization, bank of png. the commodity price boom has had numerous positive benefits for the png economy. first, due to increased mining and petroleum export revenues, the government has been able to reduce its external debt, allowing for more stable financing of the budget and external position. moreover, with stable government financing, there has been no central bank financing of the government ’ s budget, which historically has led to high inflation and exchange rate depreciation. additionally, the increased export prices have contributed to high gdp growth, while higher non - mineral export prices have increased incomes and bis central bankers ’ speeches employment. because of these factors, the bank of png has been able to increase its international reserves, while the kina exchange rate has appreciated mildly and been broadly stable. impact on inflation in png these factors have changed the nature of inflation in png in recent years. historically, inflation was relatively stable up

pressure across the entire yield curve ; i. e., not only short - term interest rates but also long - term interest rates including 10 - year jgbs, as well as super - long - term interest rates of jgbs with maturities of 20 years or longer. by referring to some specific data, let me briefly explain how the intended effects have been spreading so far. yields on 10 - year jgbs already had been lowered to a record low level before the bank decided to introduce “ qqe with a negative interest rate, ” and thus the entire yield curve has been pushed down to an extremely low level ( chart 9 ). at the same time, inflation expectations have been rising on the whole from a somewhat longer - term perspective. according to various survey - based indicators, inflation expectations generally have been raised by about 0. 5 percentage point under qqe ( chart 10 ). the decline in the nominal interest rate and the rise in inflation expectations suggest that the real interest rate has been largely pushed down. in fact, after the introduction of qqe, the real interest rate has remained in negative territory. thus, as i have mentioned, the real interest rate, having declined to the record low level, stimulated domestic demand, resulting in a moderate recovery in japan ’ s economy and an improvement in the underlying trend in inflation. zero lower bound of interest rates and framework for “ qqe with a negative interest rate ” the newly introduced “ qqe with a negative interest rate ” maintains and reinforces the basic mechanism of qqe, which has produced its intended effects. for a long period of time, a common understanding has made us believe that the nominal interest rate cannot fall below the zero lower bound. however, at present, some central banks in europe, including the european central bank ( ecb ), are in fact implementing negative interest rate policies. the following two points were considered to be reasons why the nominal interest rate cannot turn negative. first, financial institutions ’ profits would be squeezed if a negative interest rate were applied to their current accounts at the central bank. if a negative interest rate were to massively squeeze financial institutions ’ profits – which i would view as an extreme case – functioning of financial intermediation could be hampered and, as a result, the intended effects of monetary easing would wane. second, a larger negative interest rate would incentivize financial institutions to withdraw more cash from their current accounts at the central bank in