The 10 reference contexts in paper William Poole (1994) “Monetary aggregates targeting in a low-inflation economy” / RePEc:fip:fedbcp:y:1994:p:87-135:n:38

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    The conference volume leads off with a panel discussion, begun by Paul Samuelson. He opened his remarks with a one-sentence paragraph: "The central issue that is debated these days in connection with macro-economics is the doctrine of monetarism"
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    (Samuelson 1969,
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    p. 7). The background of that conference was the rising rate of inflation and accumulating evidence that excessive money growth was the cause of the problem. The principal question debated was whether the Fed should adopt a monetary target and abandon tight control of the federal funds rate.
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    This imbalance of research effort is unfortunate, given that monetary policy ought to be based on a comparison of the relative advantages and disadvantages of various approaches. My first published paper on this subject, about 25 years ago
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    (Poole 1970a),
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    emphasized that the practical issue then facing the Federal Reserve was to choose between controlling some monetary aggregate and some interest rate, and that the choice should in principle depend on whether the money stock or MONETARY AGGREGATES TARGETING IN A LOW-INFLATION ECONOMY89 the interest rate would be the more reliable policy instrument.
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    A narrow monetary aggregate (the monetary base, bank reserves, or M1) could be controlled with errors that are very small relative to the errors in controlling the price 1 Canada also has a zero inflation target, but the arrangement is somewhat more vague and less formal than in New Zealand. See Fischer (1993). 2 For an early statement of Friedman’s views on this issue, see M.
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    Friedman (1959).
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    92William Poole level or nominal GDP. The Federal Reserve can also control the federal funds rate within a narrow range, day by day. Thus, a narrow monetary aggregate and the federal funds rate will be treated here as possible policy instruments rather than as intermediate targets.3 The problems of controlling M2 and other broad monetary aggregates are much greater than the problems of controlling
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    M2 should not, I believe, be thought of as a policy instrument; if the central bank is to pursue an M2 target, it should be viewed as an intermediate target between policy instruments and policy goals. The problems of targeting intermediate variables were explained years ago by Benjamin
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    Friedman (1975).
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    Basically, pursuing an intermediate target adds a layer of control errors that makes control of the final goal variables less accurate than it could be by operating on policy instruments directly. Thus, from a technical point of view, there is every reason not to employ intermediate targets but to analyze policy in terms of the best settings for policy instruments to achieve the policy goals.
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    All other things being equal, an exogenously higher rate of money growth yields a higher inflation rate; in equilibrium the inflation rate will equal the rate of growth of money per unit of real GDP.5 4 Figures 1 and 2 are reproduced from
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    Poole (1994a).
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    For another recent study, see Duck (1993). ~ Depending on tastes in macro theory, a few more conditions might have to be added to make this proposition airtight, but in practice failure to meet all the theoretical MONETARY AGGREGATES TARGETING IN A LOW-INFLATION ECONOMY95 Figure 1 Money Growth and Inflation: All Countries Inflation, Average Annual Rate, Percent 400 ̄ ~ 200 IO0 50
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    AGGREGATES TARGETING IN A LOW-INFLATION ECONOMY95 Figure 1 Money Growth and Inflation: All Countries Inflation, Average Annual Rate, Percent 400 ̄ ~ 200 IO0 50 ~ .~ O O 20 ¢po 10 2510 2050 100 200 400 Money per Unit of Real GDP, Average Annual Change, Percent Source: World Bank, World Development Report 1993, Tables 1, 2, and 13. Reproduced from
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    Poole (1994a).
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    When dealing with rates of inflation of 20, or 50, or 200 percent per year, no one disputes that lower money growth is essential to reduce inflation. But in considering countries with lower and lower inflation rates, the relationship between money growth and inflation appears to be less and less reliable.
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    , Problems with the underlying data are surely more important. 96William Poole Figure 2 Money Growth and Inflation: High-Income Countries Inflation, Average Annual Rate, Percent 20 15c 10o 5~o % ~1970-80 1980-91 0 ,/o~, ,~, , 5101520 Money per Unit of Real GDP, Average Annual Change, Percent Source: World Bank, World Development Report 1993, Tables 1,2, and 13.Reproduced from
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    Poole (1994a).
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    little or no interest. When nominal interest rates are low, the opportunity cost to holding money is low, and people hold larger real balances. Moreover, the penalty for holding balances that are temporarily larger than they need to be is small.
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    A second consideration, one not well understood in today’s debates over monetary policy, is that a predictable consequence of optimal monetary policy is that the correlation between monetary policy instruments and policy goals will be driven to zero. This issue is discussed in some detail in another paper
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    (Poole 1994b),
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    but the equations from that paper are reported here and the issue will be reviewed briefly. Consider the following simple model: Y = ao + a~X + ~M + eO) with means/z~ --/zx = 0, variances o~, O~x, and covariance O-~x = 0.
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    Over the course of the late 1980s, the relationship between money growth however defined and nominal GDP seemed less and less reliable, and the Fed’s attention to money growth targets waned to the point of nearly vanishing. With regard to M1, the main issue is that the interest elasticity of demand for M1 is considerably higher than estimated in the mid 1970s. In first taking up this issue
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    (Poole 1970b),
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    I argued that estimates of income and interest elasticities from postwar data were not well determined because of the long, rising trends in both real income and interest rates. I now believe that economists made a mistake in attributing rising velocity of M1 between 1946 and 1980 to some combination of a real income elasticity below unity and an exogenous trend.
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    The Fed has been quite successful in recent years in aggressively adjusting the fed funds rate and has come to the point of essentially ignoring information from the monetary aggregates. This policy, by the way, is similar to the combination policy in
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    Poole (1970a)
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    o 110William Poole Ignoring the aggregates is a mistake. Evidence is overwhelming across the ages of the important role of money growth in causing inflation. The Fed has come to ignore the aggregates through a simple but understandable error of economic analysis.
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