Total Factor Productivity and Monetary Policy: Evidence from Conditional Volatility

This paper empirically assesses whether monetary policy affects real economic activity through its affect on the aggregate supply side of the macroeconomy. Analysts typically argue that monetary policy either does not affect the real economy, the classical dichotomy, or only affects the real economy in the short run through aggregate demand new Keynesian or new classical theories. Real business cycle theorists try to explain the business cycle with supply-side productivity shocks. We provide some preliminary evidence about how monetary policy affects the aggregate supply side of the macroeconomy through its affect on total factor productivity, an important measure of supply-side performance. The results show that monetary policy exerts a positive and statistically significant effect on the supply-side of the macroeconomy. Moreover, the findings buttress the importance of countercyclical monetary policy as well as support the adoption of an optimal money supply rule. Our results also prove consistent with the effective role of monetary policy in the Great Moderation as well as the more recent rise in productivity growth.

A General Schema for Optimal Monetary Policymaking: Objectives and Rules

This paper examines four equivalent methods of optimal monetary policymaking, committing to the social loss function, using discretion with the central bank long-run and short-run loss functions, and following monetary policy rules. All lead to optimal economic performance. The same performance emerges from these different policymaking methods because the central bank actually follows the same (similar) policy rules. These objectives (the social loss function, the central bank long-run and short-run loss functions) and monetary policy rules imply a complete regime for optimal policy making. The central bank long-run and short-run loss functions that produce the optimal policy with discretion differ from the social loss function. Moreover, the optimal policy rule emerges from the optimization of these different central bank loss functions.