SECTION 1.0 After decades of pursuing various macroeconomic policy frameworks, Malawi still remains in the grip of severe macroeconomic instability. Inflation has remained high and volatile averaging around 20 percent since 1990. Real GDP growth has equally been volatile and low averaging around 4.3 percent over the same period. Undeniably therefore, inflation has remained stubbornly volatile leading to a question of whether monetary policy implemented within the currency monetary policy framework is indeed effective or not. Malawi started to actively use Monetary Aggregate Targeting (MAT) in the early 1990s when the structural and political adjustments were being implemented and a flexible exchange rate system was commissioned (1994). Monetary aggregate targeting involves the use of an inflation target consistent reserve money growth as operational target to influence money supply which is the intermediate target. Major assumptions in the implementation of the MAT framework are the stability of money demand and money multiplier. These conditions enable the pass-through of changes in reserve money aggregates to monetary aggregates and target variables (price and GDP). In their absence, the framework becomes inconsequential. In recent periods, there have been concerns from various researchers regarding the effectiveness of monetary policy in Malawi. Ngalawa (2011), Mangani (2012) and Mangani (2013 unpublished) use the Vector Auto Regressive frameworks and find evidence of price puzzles. These counterintuitive results can however be blemished on methodological issues. Sims (1992) argues that the price puzzles result from imperfectly controlling for some factors in the VAR models. Specific factors pertaining to low income countries are adverse terms of trade, agriculture dependence, fiscal dominance and huge supply side shocks which result in structural breaks in data. Due to the perceived instability of money demand and money multipliers, several less developed countries including Malawi are attempting to modernise their monetary
1.0 After decades of pursuing various macroeconomic policy frameworks, Malawi still remains in the grip of severe macroeconomic instability. Inflation has remained high and volatile averaging around 20 percent since 1990. Real GDP growth has equally been volatile and low averaging around 4.3 percent over the same period. Undeniably therefore, inflation has remained stubbornly volatile leading to a question of whether monetary policy implemented within the currency monetary policy framework is indeed effective or not. Malawi started to actively use Monetary Aggregate Targeting (MAT) in the early 1990s when the structural and political adjustments were being implemented and a flexible exchange rate system was commissioned (1994). Monetary aggregate targeting involves the use of an inflation target consistent reserve money growth as operational target to influence money supply which is the intermediate target. Major assumptions in the implementation of the MAT framework are the stability of money demand and money multiplier. These conditions enable the pass-through of changes in reserve money aggregates to monetary aggregates and target variables (price and GDP). In their absence, the framework becomes inconsequential. In recent periods, there have been concerns from various researchers regarding the effectiveness of monetary policy in Malawi. Ngalawa (2011), Mangani (2012) and Mangani (2013 unpublished) use the Vector Auto Regressive frameworks and find evidence of price puzzles. These counterintuitive results can however be blemished on methodological issues. Sims (1992) argues that the price puzzles result from imperfectly controlling for some factors in the VAR models. Specific factors pertaining to low income countries are adverse terms of trade, agriculture dependence, fiscal dominance and huge supply side shocks which result in structural breaks in data. Due to the perceived instability of money demand and money multipliers, several less developed countries including Malawi are attempting to modernise their monetary SECTION