Should the transmission of monetary policy be understood in terms of its impacts on interest rates and bond yields, or monetary aggregates? This article considers the relationship between those aggregates and inflation, both over the past and more recently. And explains how the MPC takes account of “QT” in its forecasts.

The emerging consensus in monetary policy and business cycle analysis is that money aggregates are not useful as an intermediate target for monetary policy or as an information variable. The uselessness of money as an intermediate target is driven, at least in part, by empirical research that suggests that money demand is unstable. In addition, the informational quality of money has been called into question by empirical research that fails to identify a relationship between money growth and inflation, nominal income growth, and the output gap. Nevertheless, this research is potentially flawed by the use of simple sum money aggregates, which are not consistent with economic, aggregation, or index number theory. This paper therefore reexamines previous empirical evidence on money demand and the role of money as an information variable, using Divisia monetary aggregates. These aggregates have the advantage of being derived from microtheoretic foundations, as well as being consistent with aggregation and index number theory. The results of the reevaluation suggest that previous empirical work might be driven by mismeasurement.

This paper considers a nonborrowed-monetary-base VAR and a targets and instrument framework favored by the monetarists to resolve the puzzles thrown up by monetary VAR studies. The results show that nonborrowed-monetary-base shocks produce responses consistent with a priori expectations about the effects of monetary policy on interest rates, prices, and output.