Tuesday, July 28, 2009

monetary policy rules

A monetary policy rule. this is a policy strategy to which a central bank such as the Federal reserve might bind or commit itself. By this we mean that the Fed would, if it adopted a monetary policy rule, follow that rule no matter what occurs in the economy, such as an economic expansion or an economic contraction.
there are many possible rules for monetary policy. in fact, the potential number of rules is infinite. For instance, the Fed could commit itself to keeping the federal fund rate constant at 6 percent indefinitely . alternatively, it could commit itself to increasing the quantity of money by 10 percent for every 1-percentage-point increase in the federal funds rate. Or it could maintain a 2-percent-point spread between the federal funds rate and the discount rate. Or it could itself to increasing the quantity of money at a rate of 2 percent annually.
Note that monetary policy rule does not necessarily require that the Fed keep an instrument, intermediate target, or ultimate policy goal at some constant level.What a rule involves is making a percommitment to follow a particular strategy and sticking with that strategy irrespective of what may happen to economic variables. a monetary policy rule need not be simple; what makes it a rule is the Fed commits to the rule and does not depart from it whether the economy does well or poorly.

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