SHOULD experts in the public service follow rules, or rely on their own judgment? The answer is crucial for many areas of public policy, including criminal sentencing, immigration and education. It is also of pivotal importance to monetary policy.
Central bankers usually have discretion over how to use interest rates to achieve their goals. Yet it is easy to see the problems that result, as analysts pore over every word any central banker utters and markets see-saw in response. This tendency is becoming more frenzied as America’s Federal Reserve prepares to raise rates, issuing tantalisingly vague statements along the way. Some Republicans in Congress think it would be better if the central bank’s actions were more predictable. Jeb Hensarling, who heads the committee that oversees the Fed, frequently urges it to set interest rates using a simple formula.
The debate about rules versus discretion is an old one. In 1977 economists Finn Kydland and Edward Prescott—who went on to win the Nobel prize for their work—showed how too much tinkering with interest rates can be harmful.* In a simple model of the economy, two things...
from The Economist: Finance and economics http://ift.tt/1M7Y5ln
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