Monetary Policy and the Quest for Robust Political Economy

Abstract

Attempting to find the technically optimal monetary policy is futile if the Fed’s independence is undermined by political influences. Nobel Laureates F.A. Hayek, Milton Friedman, and James Buchanan each sought ways to constrain and/or safeguard the Fed from political pressures over their scholarly careers. Each Laureate ended up rejecting the possibility of minor reforms being sufficient to secure Fed independence, each concluding separately that only a fundamental restructuring of our monetary structure could ensure a politically-independent monetary regime. Friedman turned to binding rules, Buchanan to constitutionalism, and Hayek to denationalization. We incorporate their intellectual experiences to make a case for applying the concepts of robust political economy to the Fed. Robust political economy calls for relaxing idealized assumptions in order to seek out institutional regimes that can overcome both the epistemic and motivational hurdles that characterize contemporary democratic settings.

Keywords: Monetary Policy, Federal Reserve, Robust Political Economy, Current Financial Crisis

JEL Classification: E58, E61, P16