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The Conduct of Domestic Monetary Policy

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  • Robert J. Gordon

Abstract

This paper develops the view that monetary policy operates within a set of basic constraints that limit the set of outcomes that it can achieve.These include constraints on aggregate supply behavior that determine how a given path of nominal income growth will be divided between inflation and output growth, as well as "velocity" constraints that influence the path of nominal income growth that will result from any given time path for the monetary base, monetary aggregates, or interest rates.The interaction of monetary policy decisions with shifts in constraints helps to explain the sources of deteriorating macroeconomic performance in the 1970s and early 1980s.The role of aggregate supply behavior is illustrated with a one-equation approach to the econometric problem of predicting how changes in nominal GNP growth will be divided between inflation and real GNP growth. The results from the equation estimated through 1980 are used to examine the behavior of inflation during the 1981-82 recession, and to predict the behavior of inflation and unemployment that would ac-company alternative paths of nominal GNP growth after 1982.The role of velocity is examined in a new set of multivariate exogeneity tests using the vector-autoregressive (VAR) approach for three separate sample periods (1953-61, 1962-70, and 1971-79).The major conclusions are that the monetary base has no significant explanatory role for spending changes. The Treasury bill rate appears to carry the main explanatory power, working directly on spending in the 1950s and indirectly through the money multiplier in the 1970s.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 1221.

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Date of creation: Oct 1983
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Publication status: published as Ando, Albert, Hidekazu Eguchi, Roger Farmer, and Yoshio Suzuki (eds.) Monetary Policy in Our Times: Proceedings of the First International Conference Held by the Institute for Monetary and Economic Studies of the Bank of Japan. Cambridge, MA and London: The M.I.T. Press, 1985.
Handle: RePEc:nbr:nberwo:1221

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  1. John A. Tatom, 1983. "Money market deposit accounts, super-NOWs and monetary policy," Review, Federal Reserve Bank of St. Louis, issue Mar, pages 5-16.
  2. William Poole, 1970. "Optimal choice of monetary policy instruments in a simple stochastic macro model," Staff Studies 57, Board of Governors of the Federal Reserve System (U.S.).
  3. Robert J. Barro & Mark Rush, 1980. "Unanticipated Money and Economic Activity," NBER Chapters, in: Rational Expectations and Economic Policy, pages 23-73 National Bureau of Economic Research, Inc.
  4. Bryant, Ralph C, 1982. "Federal Reserve Control of the Money Stock," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 14(4), pages 597-625, November.
  5. Franz, Wolfgang, 1983. "The past decade's natural rate and the dynamics of german unemployment: A case against demand policy?," European Economic Review, Elsevier, vol. 21(1-2), pages 51-76.
  6. Mishkin, Frederic S, 1982. "Does Anticipated Monetary Policy Matter? An Econometric Investigation," Journal of Political Economy, University of Chicago Press, vol. 90(1), pages 22-51, February.
  7. Fellner, William, 1982. "Criteria for Useful Targeting: Money versus the Base and Other Variables," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 14(4), pages 641-60, November.
  8. Friedman, Benjamin M, 1982. "Federal Reserve Policy, Interest Rate Volatility, and the U.S. Capital Raising Mechanism," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 14(4), pages 721-45, November.
  9. Gordon, Robert J, 1975. "The Demand for and Supply of Inflation," Journal of Law and Economics, University of Chicago Press, vol. 18(3), pages 807-36, December.
  10. Sargent, Thomas J & Wallace, Neil, 1975. ""Rational" Expectations, the Optimal Monetary Instrument, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, vol. 83(2), pages 241-54, April.
  11. Sims, Christopher A, 1972. "Money, Income, and Causality," American Economic Review, American Economic Association, vol. 62(4), pages 540-52, September.
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