New Challenges on the Science of Monetary Policy

The chapter assesses what policymakers and academic economists have learned about monetary policy strategy and argues on whether we should change our thinking in this regard since the global financial crisis (GFC), starting with a discussion of where the science of monetary policy stood during the Great Moderation. All major central banks continue to implement monetary policy frameworks which emphasize price stability, accepting that there is unlikely a trade-off between the level of real economic activity and the rate of inflation. Academic monetary policy research highlights frameworks that apply a higher weight on the evolution of the price level over the medium term, which seem to cater (at least in theory) more robust explanations on how to increase the effectiveness of the monetary policy transmission in view of the GFC and the subsequent crisis episodes resulting in the recent increase in inflation. Furthermore, in view of the lessons learned after the Great Moderation years, the so-called “leaning-against-the-wind” monetary policy has gained wide acceptance, and the quest for the appropriate level and operational framework of such policy is reflected in pertinent research among academics and central banking practitioners, as well as in the actual conduct of monetary policy.