Money in Monetary Policy Design: A Formal Characterization of ECB-Style Cross-Checking
12 Pages Posted: 14 May 2008
Date Written: February 2007
Abstract
The European Central Bank has assigned a special role to money in its two pillar strategy and has received much criticism for this decision. The case against including money in the central bank's interest rate rule is based on a standard model of the monetary transmission process that underlies many contributions to research on monetary policy in the last two decades. In this paper, we develop a justification for including money in the interest rate rule by allowing for imperfect knowledge regarding unobservables such as potential output and equilibrium interest rates. We formulate a novel characterization of ECB-style monetary cross-checking and show that it can generate substantial stabilization benefits in the event of persistent policy misperceptions regarding potential output.
Keywords: European Central Bank, monetary policy, monetary policy under uncertainty, money, quantity theory
JEL Classification: E32, E41, E43, E52, E58
Suggested Citation: Suggested Citation
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