monetarism & monetary targeting rules not discretion!! end monetary mischief!!! mv = py …...
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Monetarism & Monetary Targeting• Rules not discretion!! End monetary mischief!!!
MV = PY … automatic stabilization???M1? M2?? Innovations
Does targeting M change V???
– Fed began to announce targets for money supply growth in 1975.
– Paul Volker (1979) focused on nonborrowed reserves– Greenspan (July 1993)announced the Fed would not
use any monetary aggregates to guide monetary policy
• Nominal GDP targeting??? PY– Automatic stabilization???
Inflation TargetingBernanke, Laubach, Mishkin, Posen (1999)NZ (1990), CN (1991), UK (1992), S, Su (1993)…Au,E,Is,Chile,Brazil
• Announcement of medium-term numerical target for π
• Institutional commitment to price stability as primary, long-run goal of monetary policy
• Information-inclusive approach in which many variables are used in making decisions
• Increased transparency of the strategy– π understood by all … B of E Inflation Report
• Increased accountability of central bank
“Constrained discretion”• Flexible: don’t ignore things other than inflation
FIGURE 1 Inflation Rates and Inflation Targets for New Zealand, Canada, and the United Kingdom, 1980–2008
Source: Ben S. Bernanke, Thomas Laubach, Frederic S. Mishkin, and Adam S. Poson, Inflation Targeting: Lessons from the International Experience (Princeton: Princeton University Press, 1999), updates from the same sources, and www.rbnz.govt .nz/statistics/econind/a3/ha3.xls.
Inflation Targeting• Advantages
– Does not rely on one variable to achieve target– Easily understood– Reduces time-inconsistency risk– Stresses transparency and accountability
• Disadvantages– Delayed signaling– Too much rigidity??? – Really not– Potential for increased output fluctuations– Low economic growth during disinflation
Monetary Policy with an Implicit Nominal Anchor … The Greenspan Standard
• No explicit nominal anchor• Forward looking behavior and periodic “preemptive
strikes”– Prevent inflation from getting started.
• Bubbles and The Greenspan Put – 1987 … ok– 1998 LTCM … ok– 2000 dot.com … ok– 2007 housing bubble … ouch!!!
• Tools– Open market operation– Reserve requirements– Discount rate
• Policy instrument (operating instrument)– Reserve aggregates– Interest rates
• Interest-rate and aggregate targets are incompatible (must chose one or the other).
The Taylor Rule, NAIRU, and the Phillips Curve
Federal funds rate target =
inflation rate equilibrium real fed funds rate
1/2 (inflation gap)1/2 (output gap)
• An inflation gap and an output gapStabilizing real output is an important concernOutput gap is an indicator of future inflation (Phillips
Curve)• NAIRU
– Rate of unemployment at which there is no tendency for inflation to change
Fed policy stance, expectations and real interest ratesireal = i – πe
Expectations hypothesis: Expected short-rates long rates
i ff target = 2% + π + .5(π – π*) + .5(Y – Yfe)
The Taylor Rule for the Federal Funds Rate 1970–2008
Source: Federal Reserve: www.federalreserve.gov/releases and author’s calculations.
Central Bank Response to Asset Price Bubbles: Lessons From the Subprime Triggered Crisis
– Credit-driven bubbles• Subprime triggered financial crisis
– Bubbles driven solely by irrational exuberance• Bubbles are easier to identify when asset prices
and credit are increasing rapidly at same time. – The “Greenspan Put”
• Can’t judge when it’s a bubble and when it’s a “new era”
– Include asset prices in measure of inflation?• Raising rates to prick a bubble can damage macroeconomy• Clean up after the bubble bursts.
– Mishkin’s preference: “Macroprudential regulation”• Oppose feedbacks from credit - to asset prices - to credit• Raise credit standards … in shadow banking system too?
Historical Perspective I
• Discount policy and the real bills doctrine• Discovery of open market operations• The Great Depression• Reserve requirements as a policy tool
– Thomas Amendment to the Agricultural Adjustment Act of 1933
• War finance and the pegging of interest rates
Historical Perspective II
• Targeting money market conditions– Procyclical monetary policy
• Targeting monetary aggregates• New Fed operating procedures
– De-emphasis of federal funds rate
• De-emphasis of monetary aggregates– Borrowed reserves target
• Federal funds targeting again– Greater transparency
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