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An overhaul of Federal Reserve doctrine: Nominal income and the Great Moderation

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  • Hendrickson, Joshua R.

Abstract

The Great Moderation is often characterized by the decline in the variability of output and inflation from earlier periods. While a multitude of explanations for the Great Moderation exist, notable research has focused on the role of monetary policy. Specifically, early evidence suggested that this increased stability is the result of monetary policy that responded much more strongly to realized inflation. Recent evidence casts doubt on this change in monetary policy. An alternative hypothesis is that the change in monetary policy was the result of a change in doctrine; specifically the rejection of the view that inflation was largely a cost-push phenomenon. As a result, this alternative hypothesis suggests that the change in monetary policy beginning in 1979 is reflected in the Federal Reserve’s response to expectations of nominal income growth rather than realized inflation as previously argued. I provide evidence for this hypothesis by estimating the parameters of a monetary policy rule in which policy adjusts to forecasts of nominal GDP for the pre- and post-Volcker eras. Finally, I embed the rule in two dynamic stochastic general equilibrium models with gradual price adjustment to determine whether the overhaul of doctrine can explain the reduction in the volatility of inflation and the output gap.

Suggested Citation

  • Hendrickson, Joshua R., 2012. "An overhaul of Federal Reserve doctrine: Nominal income and the Great Moderation," Journal of Macroeconomics, Elsevier, vol. 34(2), pages 304-317.
  • Handle: RePEc:eee:jmacro:v:34:y:2012:i:2:p:304-317
    DOI: 10.1016/j.jmacro.2012.02.002
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    Citations

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    Cited by:

    1. Fackler, James S. & McMillin, W. Douglas, 2020. "Nominal GDP versus price level targeting: An empirical evaluation," Journal of Economics and Business, Elsevier, vol. 109(C).
    2. Jonathan Benchimol & André Fourçans, 2016. "Nominal income versus Taylor-type rules in practice," Working Papers hal-01357870, HAL.
    3. David Beckworth & Joshua R. Hendrickson, 2020. "Nominal GDP Targeting and the Taylor Rule on an Even Playing Field," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 52(1), pages 269-286, February.
    4. Robert L. Hetzel, 2012. "Does monetarism retain relevance?," Economic Quarterly, Federal Reserve Bank of Richmond, vol. 98(2Q), pages 77-110.
    5. Benchimol, Jonathan & Fourçans, André, 2019. "Central bank losses and monetary policy rules: A DSGE investigation," International Review of Economics & Finance, Elsevier, vol. 61(C), pages 289-303.
    6. Hendrickson, Joshua R., 2014. "Redundancy Or Mismeasurement? A Reappraisal Of Money," Macroeconomic Dynamics, Cambridge University Press, vol. 18(7), pages 1437-1465, October.
    7. Hetzel, Robert, 2019. "Rules vs. Discretion Revisited: A Proposal to Make the Strategy of Monetary Policy Transparent," Working Papers 10055, George Mason University, Mercatus Center.
    8. Jackson Mejia & Brian C. Albrecht, 2022. "On price stability with a job guarantee," Contemporary Economic Policy, Western Economic Association International, vol. 40(4), pages 568-584, October.
    9. Robert L. Hetzel, 2024. "What Is the Monetary Standard? The Fed Should Tell Us," Review, Federal Reserve Bank of St. Louis, vol. 106(1), pages 10-39, January.
    10. repec:fip:fedreq:y:2012:i:2q:p:77-110:n:vol.98no.2 is not listed on IDEAS
    11. Ryan H. Murphy & Jiawen Chen, 2017. "A simple empirical investigation into the optimal size of the NGDP Target and Level targeting," Journal of Economics and Finance, Springer;Academy of Economics and Finance, vol. 41(2), pages 354-369, April.
    12. Selgin, George & Beckworth, David & Bahadir, Berrak, 2015. "The productivity gap: Monetary policy, the subprime boom, and the post-2001 productivity surge," Journal of Policy Modeling, Elsevier, vol. 37(2), pages 189-207.
    13. Jonathan Benchimol & André Fourçans, 2017. "Monetary Rule, Central Bank Loss and Household’s Welfare: an Empirical Investigation," Globalization Institute Working Papers 329, Federal Reserve Bank of Dallas.

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    More about this item

    Keywords

    Monetary policy rules; Real-time data; Greenbook forecasts; Nominal income target; Great Moderation;
    All these keywords.

    JEL classification:

    • E30 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - General (includes Measurement and Data)
    • E37 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Forecasting and Simulation: Models and Applications
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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