Question

< Back to Assignment Attempts: Average: / 1 3. Rules versus discretion This question addresses the issue of whether monetary policy should be made by discretionary policy or be implemented according to a set of rules. Which of the following statements reflect arguments in favor of policy by rule rather than discretion? Check all that apply. The time inconsistency of policy problem can be eliminated by having the central bank commit to a particular policy rule. Monetary rules may lead to a lower sacrifice ratio because the public is more confident that the Federal Reserve will keep inflation low. It is impossible for a policy rule to consider all the possible scenarios and specify, in advance, the right policy response. It is better to appoint qualified individuals who will respond to any situation as best they can. Monetary rules reduce the flexibility of the Federal Reserve. Grade It Now Save & Continue Continue without saving

Answer 1

• Monetary rules may lead to a lower sacrifice ratio because the public is more confident that the Federal Reserve will keep inflation low.
• The time inconsistency of policy problem can be eliminated by having the central bank commit to a particular policy rule.

Step-by-step explanation:

Monetary Policy by a central bank is what decides how much money will be in an Economy and so can have influence on interest and inflation rates.

There have been some arguments as to whether Central banks like the Fed should use a Rule based approach where monetary policy is in line with set rules vs Discretionary where the Fed can implement monetary policy based on their perception of Economic events.

Some of the arguments presented by proponents for the Rule based approach are;

• If certain rules in place to govern monetary policy in terms of inflation keep the inflation rate stable and low, the sacrifice ratio will be lower. The sacrifice ratio refers to the costs of a fluctuating inflation rate on the economy with producers producing less when inflation falls as they wait for it to rise again. If the rate is kept low, the producers would have to produce regardless.
• If the Fed were to commit to certain rules, policy will be implemented on a consistent basis such as the increase in money supply every period. This would remove the time inconsistency of policy problem.