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The Role of Interest Rates in Federal Reserve Policymaking

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  • Benjamin M. Friedman

Abstract

Most central banks, including the U.S. Federal Reserve System, implement their monetary policy by setting interest rates. This paper reviews the major changes that have taken place along the way from the Federal Reserve's interest rate-based policy structure of the 1960s to the interest rate-based structure in place today, and then goes on to consider three open questions that this way of conducting monetary policy presents: (1) whether there is a nominal anchor' problem, and if so whether explicit inflation targeting would solve it, (2) whether there is a role in this policymaking process for interest rates other than whatever particular rate the Federal Reserve chooses to set, or equivalently for equity prices, and (3) to what extent the electronic revolution now under way in banking threatens the efficacy of an interest rate-based monetary policy. The paper concludes by considering the implications of the rules-versus-discretion debate for the role of interest rates in monetary policymaking.

Suggested Citation

  • Benjamin M. Friedman, 2000. "The Role of Interest Rates in Federal Reserve Policymaking," NBER Working Papers 8047, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:8047
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    References listed on IDEAS

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    1. Svensson, Lars E. O., 1997. "Inflation forecast targeting: Implementing and monitoring inflation targets," European Economic Review, Elsevier, vol. 41(6), pages 1111-1146, June.
    2. McCallum, Bennett T., 1981. "Price level determinacy with an interest rate policy rule and rational expectations," Journal of Monetary Economics, Elsevier, vol. 8(3), pages 319-329.
    3. William Poole, 1969. "Optimal choice of monetary policy instruments in a simple stochastic macro model," Special Studies Papers 2, Board of Governors of the Federal Reserve System (U.S.).
    4. 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 241-254, April.
    5. William Poole, 1970. "Optimal Choice of Monetary Policy Instruments in a Simple Stochastic Macro Model," The Quarterly Journal of Economics, Oxford University Press, vol. 84(2), pages 197-216.
    6. Benjamin M. Friedman & Kenneth N. Kuttner, 1996. "A Price Target for U.S. Monetary Policy? Lessons from the Experience with Money Growth Targets," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 27(1), pages 77-146.
    7. King, Mervyn, 1997. "Changes in UK monetary policy: Rules and discretion in practice," Journal of Monetary Economics, Elsevier, vol. 39(1), pages 81-97, June.
    8. Charles Goodhart, 2000. "Can Central Banking Survive the IT Revolution?," FMG Special Papers sp125, Financial Markets Group.
    9. Wicksell, Knut, 1907. "The Influence of the Rate of Interest on Prices," History of Economic Thought Articles, McMaster University Archive for the History of Economic Thought, vol. 17, pages 213-220.
    10. Benjamin M. Friedman, 1999. "The Future of Monetary Policy: The Central Bank as an Army With Only a Signal Corps," NBER Working Papers 7420, National Bureau of Economic Research, Inc.
    11. Friedman, Benjamin M, 1999. "The Future of Monetary Policy: The Central Bank as an Army with Only a Signal Corps?," International Finance, Wiley Blackwell, vol. 2(3), pages 321-338, November.
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    Cited by:

    1. Qureshi, Irfan, 2018. "Money Aggregates and Determinacy : A Reinterpretation of Monetary Policy During the Great Inflation," The Warwick Economics Research Paper Series (TWERPS) 1156, University of Warwick, Department of Economics.
    2. Qiang Dai & Kenneth J. Singleton & Wei Yang, 2007. "Regime Shifts in a Dynamic Term Structure Model of U.S. Treasury Bond Yields," Review of Financial Studies, Society for Financial Studies, vol. 20(5), pages 1669-1706, 2007 12.
    3. Aksoy, Yunus & Piskorski, Tomasz, 2001. "Domestic money and US output and inflation," CFS Working Paper Series 2001/08, Center for Financial Studies (CFS).
    4. Thomas Palley, 2004. "Asset-based reserve requirements: reasserting domestic monetary control in an era of financial innovation and instability," Review of Political Economy, Taylor & Francis Journals, vol. 16(1), pages 43-58.
    5. Mansoorian, Arman & Michelis, Leo, 2005. "Money, habits and growth," Journal of Economic Dynamics and Control, Elsevier, vol. 29(7), pages 1267-1285, July.

    More about this item

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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