Of Monetary Policy

Resolution of the debate over rules versus authority in the conduct of monetary policy appears to hinge on the solution to two separate but related problems. First, there is the problem of determining the most appropriate model to apply to describe the relationship between monetary instruments and economic aggregates. Second, there is the problem of determining the appropriate decision rules to be followed by policymakers when setting their instruments, given their goals and given their model. This paper is primarily concerned with the decision rule problem and not with the question of whose model is best. For con;cenience of exposition, the only decisions considered for the conduct of monetary policy will be the determination of desired values of either the interest rate or the stock of money; blends of the two instruments will also be considered. It is assumed that on a quarterly average basis, it is technically possible to set the average desired money stock or the average desired short-term interest rate. In Section 1, an attempt is made to summarize what is currently known about optimal decision rules for monetary policy. Section 2 describes some experiments in which some simple rules of thumb for the conduct of monetary policy are applied to the structure of the FRB-MIT econometric model.