Ludwig Wittgenstein pointed out that many words do not have a simple precise meaning, but instead refer to a set with some kind of concept. Family Resemblance. I thought of this during a reading Twitter exchangewhich was triggered by a Recent Posts I did at TheMoneyIllusion:
There are several ways that this question can be solved. For simplicity, I will focus on a fiat money system, as I would probably define monetary policy somewhat differently under a gold standard.
Monetary policy occurs:
1. When a financial authority . . .
2. Using a set of monetary policy tools . .
3. or signals the future use of policy tools . .
4. To influence the supply and/or demand for account medium, . .
5. which affects nominal aggregates like price level and NGDP
Later I will return to the question of whether only actions by a monetary authority (such as a central bank) should count. For now, let’s look at the other parts of my definition.
In the United States, the monetary base (cash plus reserves) is the medium of account. The Fed has traditionally had three policy tools that affect base supply and demand, but those tools have changed over time:
Policies affecting the main money supply: open market operations and credit to banks.
Policies Affecting Principal Money Demand: Reserve Requirement and Interest on Reserves (IOR).
These are four tools, but IORs did not exist prior to 2008 and reserve requirements do not currently exist. So mostly three tools. Basically, the Fed coordinates the supply of base money by buying and selling assets, as well as borrowing base money. Demand is affected by changes in IOR. Further supply of principal is expansionary, Other things being equal, and more base demand is contractionary. but, And this is important, policy is not necessarily expansionary when the base increases, and it is not necessarily contractionary when a higher IOR increases base demand. Many other factors are important, the most important of which is the signal about the future path of policy, i.e. the future use of the three main policy tools.
You could make an argument that monetary policy should only refer to actions taken by monetary authorities that affect the supply and demand of base money, but any other action that affects the purchasing power of money. Thus, suppose Bill Gates wants to transfer $50 billion of his wealth from stocks to safe-deposit boxes into US currency? That increases demand for base money, right? Why not consider his actions as monetary policy?
David Andolfatto Nick makes a related point in Rowe’s response:
I can give you two reasons why I don’t think it is useful to extend the definition of monetary policy beyond monetary authority:
1. Behavior of monetary authorities is a very important part of government policy making. It is useful to have a term that applies to monetary actions taken by this particular institution and other terms (currency reserves, fiscal policy, etc.) for actions taken by other institutions that may affect the value of money.
2. As a practical matter, I don’t think Bill Gates’ currency hoarding will affect the value of the dollar. I suspect the Fed will respond by injecting enough additional base money to offset the impact Gates’ move could have on the value of money. Likewise, I suspect the Fed will roughly offset the impact of more fiscal spending on prices and nominal spending. And if not, I’d still call that inaction “expansionary monetary policy.” (A good example is the Fed’s expansionary policy through 2021.)
I don’t believe it Financial offset The logic applies to countries like Zimbabwe. But even in that case (of monetary supremacy), the first reason I give is that it is sufficient for monetary authorities to have a special tenure to set policies that affect the supply and demand of base money. I prefer to call deficit spending “fiscal policy” in Zimbabwe, although admitting that it will likely affect inflation.
Rest assured. Here’s another tweet by Andolfatto:
I’m not sure how much weight anyone puts on my opinion, but I would say that Milton Friedman certainly saw that definition as incorrect. (Although I think it might be technically correct if one defines monetary policy as policies that affect both the path of interest rates and the path of normal interest rates.)