An Introduction to Monetary Policy Rules
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As policymakers seek to prevent another financial crisis, they are scrutinizing the role the Federal Reserve (Fed) played before and during the 2008 crisis. The Fed currently exercises a great deal of discretion in monetary policy. A key point of debate is whether requiring the Fed to follow a specific rule would be preferable to the Fed’s current broad discretion.
In a new study for the Mercatus Center at George Mason University, scholar Alexander William Salter examines several different proposed rules that the Fed could follow. Salter provides a framework to help policymakers better understand how incentives and information can affect monetary policy and discusses discretion-based and rule-based approaches to monetary policy. He concludes that a rule-based approach is superior and may have been able to prevent the 2008–2009 financial crisis. While Salter does not advocate a particular rule in his study, he presents a framework for policymakers to use as they strive to choose the best monetary policy rule.
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