Instruments, indicators, targets, transmission mechanisms and goal variables (my pathetic attempt at a general theory of monetary policy)
Macroeconomists disagree about everything. We can’t agree on the proper goal variable of monetary policy, or indeed even the criteria you would use to determine the optimal goal variable. We have proposed dozens of transmission mechanisms, with no general consensus emerging. We don’t agree on the proper intermediate targets; should it be interest rates, M2, exchange rates, or NGDP futures? Even worse, we don’t even agree on what the term ‘target’ means. Are interest rates an instrument of policy or a target? Is inflation a target or a goal variable? But it’s even worse than that. Even if we can agree on interest rates being a target, we don’t even agree on whether high interest rates mean easy money or tight money. In other words we completely disagree on what constitutes an indicator of the stance of monetary policy. And we even disagree about policy instruments, the most basic question of all. What does the central bank actually do? Does it directly control short term interest rates or does it control the monetary base? It’s no surprise that people debating monetary policy find it hard to even communicate with each other.
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