On Some Slippery Slopes: Horizontalists, Structuralists and Diagrams

Since Basil Moore published Horizontalists and Verticalists in 1988, there have been numerous attempts to model an endogenous money supply within a graphical framework which would also facilitate discussion of some of the controversial issues surrounding it. These have not generally been very successful until Fontana’s recent (2003, 2006) adoption of a pure flow of funds framework. More recently, the ‘New Keynesian consensus’ in macroeconomics has finally forced a rejection of the exogenous money paradigm and the LM part of the familiar IS/LM/AS model. In this paper we show how, with some modification, Fontana’s approach can be combined with ‘mainstream’ replacements of IS/LM (Carlin and Soskice, 2006; Bofinger, Mayer and Wollmerhäuser, 2006) to produce a model of the monetary sector which illustrates both the current wisdom about monetary policy (e.g. Woodford, 2003) and the post-Keynesian insights that have been developed over the last twenty years.Macroeconomics; Post Keynesian;

The Endogeneity of Money: Empirical Evidence

For many years, the endogenous nature of the money supply has been a cornerstone of post-Keynesian economics. In this paper we survey the empirical work which has been done on both the ‘core’ thesis – that loans create deposits – and on peripheral questions such as the origin of the demand for loans, the reconciliation of the demand for money with the loan-created supply and the accommodationist/structuralist debate. The originality of the paper lies in its demonstration that while post-Keynesians may have thought they were fighting in heroic isolation, most economists involved with the real world of monetary policy-making in practice took much the same view. The consequence is that we can find empirical investigations of issues relating to the endogeneity in a wide range of locations.Money; endogeneity;

The Money Supply in Macroeconomics

The notion that the quantity of money in an economy might be endogenously determined has a long history. Even so, it has never been part of mainstream economic thinking which has remained dominated by the view that the policymaker somehow controls the stock of money and that interest rates are market-determined. However, the need to design and operate a monetary policy that works for modern economies as they are currently constructed, has led to the emergence of the so-called ‘new consensus macroeconomics’ in which it is recognised that the policymaker sets a short-term interest rate and the quantities of money and credit are demand-determined. This paper looks at the way in which this ‘new consensus’ is (at last) forcing a recognition, in the teaching of money, that the money supply is endogenously determined. It also shows how we can take this further by adding a banking sector to a model of the real economy in which the money supply is endogenously determined. The paper ends by showing how some of the issues currently emerging in the new consensus are very closely related to earlier debates amongst post Keynesian economists.Money supply; macroeconomics

Independent Central Banks: Some theoretical and empirical problems?

In little more than twenty years, it has become widely accepted that the optimal design of monetary policy should include provision for a central bank that is independent of government influence. This is a remarkably short period of time for any idea in economics to become so widely-accepted. But there are problems. In this paper we show that there are many confusions and even some contradictions associated with central bank independence. To begin with, it is not entirely clear what it is exactly that central banks need to be independent of. Furthermore, there is confusion over the mechanisms whereby independence is supposed to deliver its benefits. The literature which is commonly said to provide the rationale for independence is often misunderstood and the evidence that independence does in fact enhance policy outcomes is extremely weak.independent central banks

Book review: Deliberating American monetary policy: a textual analysis by Cheryl Schonhardt-Bailey

"Deliberating American Monetary Policy: A Textual Analysis." Cheryl Schonhardt-Bailey. MIT Press. November 2013. --- The U.S. Federal Reserve is one of the most powerful institutions in America, with influence over monetary policy both at home and, indirectly, abroad. In Deliberating American Monetary Policy, Cheryl Schonhardt-Bailey uses textual analysis to make an in-depth examination of how monetary policy is determined at the policy meetings of the Federal Open Market Committee and Congress’ oversight of these policies. Peter Howells praises the book for its interesting conclusions about the role of the Fed in policy-making, and recommends it as a fascinating read for both students of committee decision-making and for economists

Central Bank Transparency: A Market Indicator

It is widely believed that monetary policy outcomes are generally enhanced if the conduct of policy by the central bank is widely understood by other agents in the economy. This widespread belief has given rise to a number of attempts to measure the ‘transparency’ of monetary policy in various regimes. Unsurprisingly, the degree of transparency depends upon a variety of institutional arrangements peculiar to each monetary regime. Thus, the dominant approach to measurement relies upon identifying a range of legal and other formal characteristics - in a manner very reminiscent of the central bank independence literature of fifteen years ago. This approach is not entirely satisfactory, however, since it is agents’ perceptions of the degree of transparency that matters if transparency is to have any effect on policy outcomes. This has given rise to other methods of measurement which survey the views of agents. While this is potentially more relevant, it is obviously possible that their statements may differ from their actions. This paper takes a different approach which is to look at the extent to which money market interest rates anticipate central bank announcements of changes in policy rate in the case of the Bank of England (post-1997), the ECB and the (ex-) Bundesbank. In contrast with earlier studies which all claim to find significant (but not consistent) differences between the degree of transparency in each of these regimes, evidence from money market behaviour suggests that the degree of transparency is comparable across all three.Central Bank Transparency; Market;Indicator

Monetary Policy Transparency in the UK:The Impact of Independence and Inflation Targeting

There is a widespread belief that the transparency of UK monetary policy has increased substantially as a result of the introduction of inflation targeting in 1992 and a number of procedural and institutional reforms which accompanied and followed it. In this paper, we use money market responses (and other data) to test the possibility that improved anticipation of policy moves may be the result of developments other than the institutional reforms popularly cited. We find overwhelming evidence that the switch to inflation targeting itself significantly reduced monetary policy surprises, while subsequent reforms have contributed little. Where we advance substantially on earlier work is to look at the cross-sectional dispersion of agents’ anticipation. If the benefit of transparency is the elimination of policy surprise, there is little benefit if the averagely correct anticipations of agents conceal a wide dispersion of view. The most striking feature is the general decline in cross-sectional one year-ahead forecast uncertainty of the interbank rate. So, even though we do not find that agents on average have improved monetary policy anticipation since 1997, we do find that they have become more unanimous about forecasting future money market rates. However, further testing reveals that it is a simultaneous fall in the dispersion of inflation rate forecasts that explains the increased consensus on interest rates, rather than institutional reforms in 1997 and later.Monetary Policy; transparency; independence; inflation targeting

Monetary Policy Transparency:Lessons from Germany and the Eurozone

The conduct of monetary policy emphasises institutional arrangements which make monetary policy decision-making more ‘transparent’. Judged by these institutional features neither the Bundesbank, nor the ECB, score very highly. We test for (i) agents’ average ability to anticipate policy rate changes under the Bundesbank and the ECB and (ii) and agents’ forecasting unanimity of money market rates. Rising forecasting uncertainty may either be due to a lack of ECB transparency or to larger inflation and growth forecasting errors. Our results indicate that inflation forecast spreads widened amongst private agents and that inflation forecasting uncertainty increased the forecasting spread of money market ratestransparency, yield curve, forecasting uncertainty, Bundesbank, ECB

Central bank communication, transparency and interest rate volatility: Evidence from the USA

The FOMC has changed its way of communication twice, recently: from 2000-2003, the Committee imparted information about its assessment on the economic outlook (the balance-of-risk statements) and since August 2003 the FOMC informs additionally about its outlook’s implications on the future federal funds target rate (forward-looking language). The result should be that agents do not need to deduce FOMC’s likely policy move on every twitch of central bank communication and macroeconomic news. Markets have anticipated FOMC policy decisions on the day of the meeting very well since 1994. Therefore, the focus of the paper is on the behaviour of market rates between FOMC meetings and on testing for greater ‘smoothness’ and lower volatility of market rates since 2000. We apply an EGARCH model to forward rates at the short end of the yield curve. The model is used to test for the effects of the three disclosure regimes (pre-2000, 2000-2003, post-2003) on the dependence of previous and current changes of the market rates in the conditional mean equation. It is expected to observe higher inertia during the periods when market participants are better informed. Furthermore, generally, news increases interest rate volatility, since markets adjust interest rates in response to relevant news. However, other FOMC communication (other than the press statements after the FOMC meeting), may have a lower news value in the new disclosure regimes than it had in the pre-2000 period. Therefore, ‘other’ central bank communication may affect the volatility of interest rates differently in the three different regimes. This effect is tested for in the conditional variance of the regression model. We find that there is evidence of differences in smoothness between the period until 2000 and the period of the balance-of-risk statement. Furthermore, we find that the effect of other than Fed press statements after FOMC meetings varies in the three periods. This is particularly so for Fed communication concerning economic outlook and speeches by the chairman of the Board.Macroeconomics; Post Keynesian;

Monetary Policy Transparency:Too Good to be True?

In the last fifteen years or so the conduct of monetary policy in developed economies has converged in a number of ways which include an increasing emphasis on ‘openness’ and ‘transparency’ in policy-making. There is a widespread belief that transparency in the conduct of UK monetary policy has increased substantially since, and because of, the introduction of inflation targeting and associated institutional reforms in 1992. A large measure of this belief is based upon studies which reveal the increased ability of money market agents to anticipate accurately the change in official rates. In this paper, we have updated one of those studies and show that the findings are largely unaffected by events of the last five years. More interestingly, perhaps, we have floated the possibility that this improved anticipation may be the result of developments other than institutional reforms. For example, it is notable that the Bank of England has made fewer and smaller interest changes since 1992. It is also widely believed (and the behaviour of many macro variables suggests this) that economies have generally become more stable since 1992. If this is true, then macroeconomic forecasts in general should have improved and the increased anticipation would be, partly at least, due to this rather than institutional changes. We test both theses hypotheses with negative results.