If there’s one lesson that everyone has realized over the last 5 years it’s that central banks are really, really powerful. They are lenders of last resort, they can completely alter our portfolio composition, they can alter expectations, etc. I think everyone would agree on that by now.
The reason why I bring this up is because I think it gets lost in some discussions on what “monetary policy” is. In particular, I think the Market Monetarists get very annoyed by this because the idea of “monetary policy”, to most people, is largely about changing interest rates. But to the Market Monetarists “monetary policy” is much more than that.
Now, I don’t agree with the Market Monetarists on a whole lot. They are believers in efficient market hypothesis, rational expectations and they often say things like “keep banks out of macro” or “keep finance out of macro”. In other words, they don’t think banks matter, they don’t think accounting is important, and they don’t like to view the monetary system as a set of balance sheets as I do. So we arrive at our destinations along very different paths. But one thing we definitely agree on is that central banks are really, really powerful.
And that’s really the gist of Market Monetarism – central banks can just about always “do more”. They can buy more assets, they can change expectations, they can act in a very fiscal sense if some laws were changed (for instance, I’ve theorized about how an unconstrained Central Bank could buy worthless bags of dirt from people for $100 a pop which would be the same as fiscal policy for all practical purposes). So central banks and monetary policy are an extremely powerful lever. Not an Archimedean lever in my opinion, but a very powerful lever.
I’m not a big fan of the way Market Monetarists come to their conclusions, but their main conclusion is one that I think is fairly undeniable – central banks are really, really powerful. Now, whether using the central bank’s powers is the optimal way to get the economy starting and stopping at any point in the businesses cycle, well, that’s a whole different debate….