How Important is Money in the Conduct of Monetary Policy?

Abstract

I consider some of the leading arguments for assigning an important role to tracking the growth of monetary aggregates when making decisions about monetary policy. First, I consider whether ignoring money means returning to the conceptual framework that allowed the high inflation of the 1970s. Second, I consider whether models of inflation determination with no role for money are incomplete, or inconsistent with elementary economic principles. Third, I consider the implications for monetary policy strategy of the empirical evidence for a long-run relationship between money growth and inflation. (Here I give particular attention to the implications of "two-pillar Phillips curves" of the kind proposed by Gerlach (2004).) And fourth, I consider reasons why a monetary policy strategy based solely on short-run inflation forecasts derived from a Phillips curve may not be a reliable way of controlling inflation. I argue that none of these considerations provide a compelling reason to assign a prominent role to monetary aggregates in the conduct of monetary policy.

Keywords: Monetarism, monetary targeting, new Keynesian model, two-pillar strategy

JEL Classification: E52, E58