Three (four) Goodies on Monetary Policy
I don't know whether anyone ever had the temerity to argue that central banking is boring. Of course, one could always argue that central banking and monetary policy are supposed to be boring in the sense that the central bank should be blindly following some version of a Taylor rule and/or a specific nominal target for the inflation rate as well as the growth rate in the monetary base. Kind of like a good referee in soccer; if you don't notice him (or her), we should consider it a job well done.
Ultimately of course life is never that easy. I only need to invoke the M3 measure in the Eurozone to show this. For those of my readers who don't get the wonky joke here, the ECB is formally targeting a growth rate in the M3 somewhere between 3-4%. As far as I know, it has been way above this throughout the Eurozone's history (and it still is even though we are heading straight into über recession mode; latest figure for October is 8.7% yoy non-seasonally adjusted). I am sure some of you will have similar examples with other of those famous central bank gauges.
More generally the art of central banking and by consequence the focus on monetary policy have undergone quite a tumultuous development in the context of the current spectacle in financial markets. Consequently, up until that illusive butterfly flapped its wings and brought us into the current predicament, central bankers were buoyed by what was later to be coined as the great moderation. High growth in productivity as well as the much hailed positive supply shock from the big emerging markets meant that central bankers only needed to point and aim. Of course, history may not be so kind towards the idea of the great moderation since it is clear that the capacity of some emerging economies were greatly exaggerated. Add to this that some central bankers (most notably Alan Greenspan in the US) have moved from the ashes into fire as they have been blamed by many for the predicament we are in by not recognising the inflationary effect of their policies.
At the current juncture, the discussion of the importance of monetary policy and conduct of central bankers have never been more important. Sure, we have had the BOJ flirting with the zero-bound for the better part of two decades, but now that the Fed is at it too and potentially dragging the rest (kicking and screaming) with it, the importance, meaning and crucially consequences (given diverse fundamentals) of the zero-bound issue becomes crucial.
At some point I will have more to say about this, but for now let me stand on the shoulders of one of the real giants in the context of theorizing on monetary policy and central banking. In case, you are wondering, I am talking about Princeton's Alan S. Blinder.
His paper from 2006 entitled Monetary Policy: Sixteen Questions and About Twelve Answers is still, by far, one of the best pieces I have read on monetary policy in a general sense. I often find myself returning to this to refresh my memory in connection to what we should expect (and shouldn't) central bankers to do.
Recently, Blinder and co-authors (who by no way should be neglected) present three new papers on central banking and monetary policy and specifically about central bank communication.
by Alan S. Blinder Princeton University CEPS Working Paper No. 167 June 2008
It seems probable that more thinking has gone into the question of what a monetary policy committee should look like over the last decade than over the preceding century. While we have not yet reached agreement on everything, and may never do so, one way to sum up this talk is to ask what might be considered “best practice” right now. If you were a country currently thinking about redesigning your monetary policy apparatus, what sort of monetary policy committee would you set up? Posing this question is probably also a good way to provoke my discussants into disagreements.
by Alan S. Blinder Princeton University CEPS Working Paper No. 164 May 2008
Central banks, which used to be so secretive, are communicating more and more these days about their monetary policy. This development has proceeded hand in glove with a burgeoning new scholarly literature on the subject. The empirical evidence, reviewed selectively here, suggests that communication can move financial markets, enhance the predictability of monetary policy decisions, and perhaps even help central banks achieve their goals. A number of theoretical drawbacks to greater communication are also reviewed here. None seems very important in practice. That said, no consensus has yet emerged regarding what constitutes “optimal” communication strategy—either in quantity or nature.
by Alan S. Blinder, Princeton University Michael Ehrmann, European Central Bank Marcel Fratzscher, European Central Bank Jakob De Haan, University of Groningen and CESifo David-Jan Jansen, De Nederlandsche Bank CEPS Working Paper No. 161
Over the last two decades, communication has become an increasingly important aspect of monetary policy. These real-world developments have spawned a huge new scholarly literature on central bank communication.mostly empirical, and almost all of it written in this decade. We survey this ever-growing literature. The evidence suggests that communication can be an important and powerful part of the central bank¡¯s toolkit since it has the ability to move financial markets, to enhance the predictability of monetary policy decisions, and potentially to help achieve central banks¡¯ macroeconomic objectives. However, the large variation in communication strategies across central banks suggests that a consensus has yet to emerge on what constitutes an optimal communication strategy.
All four are surely well worth more than a quick glance.