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Who’s Afraid of Rules-Based Monetary Policy?

In addition to introducing a massive policy response to the COVID-19 crisis, the US Federal Reserve this year has announced a fundamental change in its overall strategy. Yet in doing so, it has unnecessarily introduced more uncertainty into the policy mix, setting a bad example for the world's other major central banks.

STANFORD – Many of the world’s central banks have been formally reviewing their monetary-policy strategies in light of COVID-19 and the experience leading up to the pandemic. Unfortunately, they appear to be drawing the wrong lessons from the challenges they face.

One of the first to complete this process was the US Federal Reserve System, which decided to move to a new “flexible form of average inflation targeting,” as Fed Chair Jerome Powell described it in a speech at the annual Jackson Hole monetary-policy conference in August. Similarly, European Central Bank President Christine Lagarde recently told the annual ECB and Its Watchers XXI conference that the ECB is in the middle of its own “monetary policy strategy review.” And according to Bank of Japan Governor Haruhiko Kuroda, there are ongoing discussions with the new government of Prime Minister Yoshihide Suga about how to deal with the pandemic and whether a new monetary-policy strategy is in order.

In light of these discussions, it previously looked like there was a move underway to reform the entire international monetary system, with each country or region following a strategy similar to the Fed, though attuned to its own circumstances. But it no longer looks that way. “At the very least,” argues Otmar Issing, a former chief economist and member of the ECB Board who was largely responsible for charting the original course of ECB policymaking, “other central banks should not blindly follow the Fed’s new strategy.”

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