In his recent paper describing “market monetarism,” Lars Christensen suggests there is a need for more empirical research on the impact of monetary policy:
Finally, while the Market Monetarist method of “story telling” and case studies clearly has value, there is also a need for more hardcore econometric testing of some Market Monetarist views, such as Scott Sumner’s view that monetary policy works with long and variable leads.
In my view the best way to study the effects of monetary shocks is to look at market responses to monetary policy announcements. For example, in my monetary economics class we always begin by studying the January 3, 2001, Fed announcement, which cut the fed funds target from 6.5% to 6.0%. Here were some market reactions:
1. The S&P fell by 5% in one day. (Update: should have said rose 5%)
2. T-bill yields fell slightly.
3. Long term T-bond prices fell 2% to 3%, meaning long term bond yields soared much higher on the news.
4. Long term TIPS yields rose modestly.
The fall in short term yields represented the liquidity effect from an expansionary surprise, whereas the rise in stock prices and TIPS yields represented the income effect, as markets expected faster RGDP growth. And the much larger rise in long term conventional bond yields represented both the income and Fisher effects, as inflation expectations also increased sharply.
Not all monetary policy announcements generate this pattern. The question is why. One approach would look for correlations between market responses and economic conditions. I believe market responses are quite different when the markets are worried about the adequacy of aggregate demand, compared to periods where there is confidence about future AD growth.
If I was young I’d try to do a sort of “Monetary History of the US” using market reactions to monetary policy news, rather than economic responses to changes in the monetary aggregates, as Friedman and Schwartz did. I did try to do that for the Great Depression, and while it is certainly quite time-consuming, it also proved quite fruitful.
PS. I surveyed various other bloggers about a name change, and got 5 different answers from 6 bloggers (neo-monetarism, new monetarism, post-monetarism, market monetarism, and monetarism.) If you put 7 economists in a room . . .
Perhaps we should just let the market decide.