The GOP has a big idea on how to reform monetary policy: Get Congress more involved. Economists — and this is not surprising — think that idea is not so good:
As you can see, 90% of the economists surveyed — when ranked by confidence level — disagree with the GOP plan. So, yeah. Kind of overwhelming. And the reason this result is not surprising is that intuition, historical example, and research suggest that without independence, central banks will submit to their political overlords and run the printing presses.
That point of view is reflected in some of the comments from the economists, such as this one from the University of Chicago’s Nancy Stokey: “A central bank should be independent. Look at Argentina as an example of where political oversight leads.” Berkeley’s Carl Shapiro offers the “If it ain’t broke, don’t fix it” defense of the status quo: “The Fed has served Americans very well over many decades; meddling by politicians would worsen the performance of the Fed and the economy.”
But what has been the American experience? And what lessons can be drawn? While conservatives often point to the Great Inflation of the 1970s as an example of the Fed gone wild, both the Great Depression and Great Recession are examples of the Fed crashing the economy by being too tight. Taken together, do they really suggest a Fed that has “served Americans very well over many decades”? Highly debatable, at least.
Perhaps what those examples suggest is that discretionary monetary policy really is problematic. There should not just be a rule, but the correct rule that is clear on what the goal is. As Stanford’s Robert Hall, who disagrees with the GOP idea, states: “Monetary policy should be based on a target for inflation and unemployment (such as difference between the two) not on an instrument rule.”
My preference is for nominal GDP level targeting. Here is Scott Sumner:
My suggestion is that we end the independence of central banks, but replace it with something else–an explicit, legal, central bank target. Let’s suppose the Congress instructed the Fed to target 2% inflation. Now assume Congress wants more growth because we are in a recession, but because inflation is currently 2% the Fed doesn’t want to ease. The fiscal authorities could instruct the central bank to aim for 2% inflation in the long run, but allow a bit more inflation during the current recession, at the expense of a bit less that 2% inflation during the subsequent years. In other words the Fed would still have some discretion, even though their long-run mandate would be 2% inflation. They would have the legal authority to tell the fiscal authorities “OK, we’ll provide a bit more inflation right now, as long as you understand that it is being “borrowed” from future inflation. We intend to run below 2% inflation during the next boom.” This would allow for some fruitful policy coordination, while still protecting the central bank from pressure to alter its long run inflation target.
You might be thinking; “Lower than average inflation during booms and higher than average inflation during recessions. What a great idea for macroeconomic stabilization. How can we formulate that into a simple and easy to understand nominal target?”
Seriously, Congress needs to decide on some sort of explicit policy goal for aggregate demand. Whether it be inflation, the price level, or NGDP, the point is to have clearly spelled out goals so that they and the Fed are pulling in the same direction. Indeed if the goals are spelled out, there is no reason why Congress should ever have to do any pulling.