Will Monetary Policy Become More of a Science?

Over the past three decades, we have seen a remarkable change in the performance of monetary policy. By the end of the 1970s, inflation had risen to very high levels, with many countries in the Organisation for Economic Co-operation and Development (OECD) experiencing double-digit inflation rates (Figure 1). Most OECD countries today have inflation rates around the 2 percent level, which is consistent with what most economists see as price stability, and the volatility of inflation has also fallen dramatically (Figure 2). One concern might be that the low and stable levels of inflation might have been achieved at the expense of higher volatility in output, but that is not what has occurred. Output volatility has also declined in most OECD countries (Figure 3). The improved performance of monetary policy has been associated with advances in the science of monetary policy, that is, a set of principles that have been developed from rigorous theory and empirical work that have come to guide the thinking of monetary policy practitioners.

In this chapter, I will review the progress that the science of monetary policy has made over recent decades. In my view, this progress has significantly expanded the degree to which the practice of monetary policy reflects the application of a core set of “ scientific” principles. Does this progress mean that, as Keynes put it, monetary policy will become as boring as dentistry — i.e., that policy will be reduced to the routine application of core principles, much like filling cavities?¹ I will argue that there remains, and will likely always remain, elements of art in the conduct of monetary policy; in other words, substantial judgment will always be needed to achieve desirable outcomes on both the inflation and employment fronts.

Paper first published in Monetary Policy Over Fifty Years: Experiences and Lessons, June 2nd 2009, Routledge.