Is There an Active Role for Monetary Policy in the Endogenous Money Approach?
Author(s)
Fontana, Giuseppe; Palacio-Vera, Alfonso
Abstract
In the last two decades or so monetary policy has gained the most prominent role in the economic policy debate. Changes in real factors such as population, investment in physical and human capital, and technology determine the growth of potential real Gross Domestic Product (GDP). Changes in consumption, investment, government expenditure, and net exports determine the growth of aggregate demand. Then, when aggregate demand is greater than potential real GDP, inflation pressures are generated. The reverse holds when aggregate demand grows too slowly. By changing the short-term nominal interest rate, central banks can then bring the growth of aggregate demand in line with the growth of potential output. In the “new consensus” view, inflation is thus a proxy for the state of economic balance. Proponents of the new consensus view have been quick to point out the practical advantages of inflation targeting. This paper presents the so-called new consensus view of monetary policy, namely, aggregate demand fine tuning through interest rate management. After discussing pros and cons of the new consensus view on monetary policy, the paper proposes an endogenous money interpretation of a modern role for monetary policy.
