《货币经济学》课程文献阅读：Role of Money and Monetary Policy（Brunner,1968）

Editors Note to"The Role of Money and Monetary Policy The following is a guest article prepared by Dr. Karl Brunner. Since July 1966, Dr. runner has be en the Everett D. Reese Professor of Economics at The Ohio State Univer sity. For the previous fifteen years he was Professor of Economics at the University of California at Los Angeles In this article Dr. Brunner examines the current status of the debate regarding the role of money and monetary policy in economic stabil ization actions. It is presented in this Review with the anticipation that his examination of the issues involoed in this debate will bring forth further discussion by proponents of the various views. Such discussions are essential for development of the framework required for rational stabilization policy Dr. Brunner and several other well-known economists have been leading proponents of the monetary view of economic stabilization. On the basis of a great amount of theo retical and empirical research, they contend that the Federal reserve can control the money stock and that the money stock is a good indicator of the thrust of Federal Reserve actions on output, employment, and prices. These economists have been critical of the role played by the Federal Reserve System in monetary management because they have found little euidence that the System has recognized the importance of money in carrying out its responsibility for economic stabilization A countercritique to the criticisms of these monetary economists has been presented in seceral publications of the Federal Reserve System. This countercritique derives its eco- nomic foundations from a so-called"New View"of monetary economics. This"New View stresses the role of assets, both real and financial, and the relative price mechanism in mone- tary analysis. The countercritique contends that the Federal Reserve has little control over the money stock and that the money stock plays only a minor role in the transmission mechanism linking Federal Reserve actions to the real sectors of the economy Dr. Brunner, in this article, analyzes and evaluates tarious issues raised by the counter critique. He points out that the main economists who stress the role of money and monetary policy also utilize the asset and relative price approach to monetary analyis; hence, in this regard there is little difference between them and the"New View. The main point of conten- tion between the two groups, according to Dr. Brunner, lies in the extent of the development of testable hypotheses bearing on the issues raised by each group. He maintains that the onetary point of view has developed such hypotheses and has subjected them to rigor ous empirical examination. On the other hand, the " New view and the countercritique according to Dr. Brunner, have kept their analyses of the monetary mechanism in the realm of abstract economics. He characterizes their analyses as"an empty form with little empirical Recent discussions of various points of view on these issues appear in"Standards For Guiding Monetary Actions, hearings before the Joint Economic Committee, May 1968 Positions of academic economists, business economists, and members of the Board of Gou- ernors of the Federal Reserve System are contained in these hearings. The"Report of the Committee, June 1968, recommends to the Federal Reserve System that the yearly growth of the money stock be held within a range of 2 to 6 per cent Numerous works are cited in this article, and the interested reader should refer to them for laboration of the many summary arguments adbanced by the author. Several statistical tests are reported in tables; the author should be contacted directly for further information on these tests and in regard to the data used Page 8

y,.:_.:_~... ..~Ma,aaaeaa.aaAgi.,ava-., . - -. “n.IM~,4 ~th~x g~a..ahi¼nAMW k.a-.._.&fr.,A.e..~,. Editor’s Note to “The Role of Money and Monetary Policy” The following is a guest article prepared by Dr. Karl Brunner. Since July 1966, Dr. Brunner has been the Everett D. Reese Professor of Economics at The Ohio State Univer￾sity. For the previous fifteen years he was Professor of Economics at the University of California at Los Angeles. in this article Dr. Brunner examines the current status of the debate regarding the role of money and monetary policy in economic stabilization actions. It is presented in this Review with the anticipation that his examination of the issues involved in this debate will bring forth further discussion by proponents of the various views. Such discussions are essential for development of the framework required for rational stabilization policy. Dr. Brunner and several other well-known economists have been leading proponents of the monetary view of economic stabilization. On the basis of a great amount of theo￾retical and empirical research, they contend that the Federal Reserve can control the money stock and that the money stock is a good indicator of the thrust of Federal Reserve actions on output, employment, and prices. These economists have been critical of the role played by the Federal Reserve System in monetary management because they have found little evidence that the System has recognized the importance of money in carrying out its responsibility for economic stabilization. A countercritique to the criticisms of these monetary economists has been presented in several publications of the Federal Reserve System. This countercritique derives its eco￾nomic foundations from a so-called “New View” of monetary economics. This “New View” stresses the role of assets, both real and financial, and the relative price mechanism in mone￾tary analysis. The countercritique contends that the Federal Reserve has little control over the money stock and that the money stock plays only a minor role in the transmission mechanism linking Federal Reserve actions to the real sectors of the economy. Dr. Brunner, in this article, analyzes and evaluates various issues raised by the counter￾critique. He points out that the main economists who stress the role of money and monetary policy also utilize the asset and relative price approach to monetary analyis; hence, in this regard there is little difference between them and the “New View.” The main point of conten￾tion between the two groups, according to Dr. Brunner, lies in the extent of the development of testable hypotheses bearing on the issues raised by each group. He maintains that the monetary point of view has developed such hypotheses and has subjected them to rigor￾ous empirical examination. On the other hand, the “New View” and the countercritique, according to Dr. Brunner, have kept their analyses of the monetary mechanism in the realm of abstract economics. He characterizes their analyses as “an empty form with little empirical content.” Recent discussions of various points of view on these issues appear in “Standards For Guiding Monetary Actions,” hearings before the Joint Economic Committee, May 1968. Positions of academic economists, business economists, and members of the Board of Gov￾ernors of the Federal Reserve System are contained in these hearings. The “Report of the Committee,” June 1968, recommends to the Federal Reserve System that the yearly growth of the money stock be held within a range of 2 to 6 per cent. Numerous works are cited in this article, and the interested reader should refer to them for elaboration of the many summary arguments advanced by the author. Several statistical tests are reported in tables; the author should be contacted directly for further information on these tests and in regard to the data used. Page 8

The Role of Money and Monetary Policy KARL BRUNNER° The Ohio State University HE DEVELOPMENT of monetary analysis in po olicy methods was naturally to be expected and the past decade has intensified the debate concerning is welcomed. Four articles which defend present the role of money and monetary policy. Extensive policy procedures have appeared during the past research fostered critical examinations of the Fed- few years in various Federal Reserve publications. I ral Reserve's traditional descriptions of policy and These articles comprise a countercritique which of the arrangements governing policymaking. Some argues that monetary impulses are neither properly academic economists and others attribute the cyclical measured nor actually transmitted by the money fluctuations of monetary growth and the persistent stock. The authors reject the Monetarist thesis that problem concerning the proper interpretation of monetary impulses are a chief factor determining monetary policy to the established procedures of variations in economic activity, and they contend monetary policy and the conceptions traditionally that cyclical fuctuations of monetary growth cannot guiding policymakers be attributed to the behavior of the Federal Reserve The critique of established policy procedure authorities. These fluctuations are claimed to result which evolved from this research into questions con- primarily from the behav al banks rming the monetary mechanism, is derived from a body of monetary theory referred to in this paper as The ideas and arguments put forth in these articles the Monetarist position. Three major conclusions have deserve close attention. The controversy defined by emerged from the hypotheses put forth. First, mone- the critique of policy in professional studies and the tary impulses are a major factor accounting for vari- countercritique appearing in Federal Reserve pub- ations in output, employment and prices. Second, lications bears on issues of fundamental importance movements in the money stock are the most reliable to public policy. Underlying all the fashionable word measure of the thrust of monetary impulses. Third, and phrases is the fundamental question: What is the the behavior of the monetary authorities dominates movements in the money stock over business cycles. ILyle Gramley and Samuel Chase, "Time Deposits in Mone. se to the criticisms of existing me Allan H Y中是地 ve Bank of Kansas City, March 196 The rol erry L. Jordan of the Federal Reserv Cycles, Monthly Review, Federal Reserve of new york Page 9

4-. -. --— ... -. .2—. ~ The Rote of Money and Monetary Policy KARL BRUNNER° The Ohio State University HE DEVELOPMENT of monetary analysis in the past decade has intensified the debate concerning the role of money and monetary policy. Extensive research fostered critical examinations of the Fed￾eral Reserve’s traditional descriptions of policy and of the arrangements governing policymaking. Some academic economists and others attribute the cyclical fluctuations of monetary growth and the persistent problem concerning the proper interpretation of monetary policy to the established procedures of monetary policy and the conceptions traditionally guiding policymakers. The critique of established policy procedures, which evolved from this research into questions con￾cerning the monetary mechanism, is derived from a body of monetary theory referred to in this paper as the Monetarist position. Three major conclusions have emerged from the hypotheses put forth. First, mone￾tary impulses are a major factor accounting for vari￾ations in output, employment and prices. Second, movements in the money stock are the most reliable measure of the thrust of monetary impulses. Third, the behavior of the monetary authorities dominates movements in the money stock over business cycles. A response to the criticisms of existing monetary °This paper owes a heavy debt to my long and stimulating association with Allan H. Melizer. I also wish to acknowledge the editorial assistance of Leonall C. Andersen, Keith M. Carlson, and Jerry L. Jordan of the Federal Reserve Bank of St. Louis. policy methods was naturally to be expected and is welcomed. Four articles which defend present policy procedures have appeared during the past few years in various Federal Reserve publications.1 These articles comprise a countercritique which argues that monetary impulses are neither properly measured nor actually transmitted by the money stock. The authors reject the Monetarist thesis that monetary impulses are a chief factor determining variations in economic activity, and they contend that cyclical fluctuations of monetary growth cannot be attributed to the behavior of the Federal Reserve authorities. These fluctuations are claimed to result primarily from the behavior of commercial banks and the public. The ideas and arguments put forth in these articles deserve close attention, The controversy defined by the critique of policy in professional studies and the countercritique appearing in Federal Reserve pub￾lications bears on issues of fundamental importance to public policy. Underlying all the fashionable words and phrases is the fundamental question: What is the 1 Lyle Cramley and Samuel Chase, “Time Deposits in Mone￾tary Analysis,” Federal Reserve Bulletin, October 1965. John H. Kareken, “Commercial Banks and the Sup~lyof Money: A Market Determined Demand Deposit Rate,’ Federal Re- serve Bulletin, October 1967. J. A. Cacy, “Alternative A~- proaches to the Analysis of the Financial Structure, Monthly Review, Federal Reserve Bank of Kansas City, March 1968. Richard C. Davis, “The Role of the Money Supply in Business Cycles,” Monthly Review, Federal Reserve Bank of New York, April 1968. Page 9

role of monetary policy and what are the require- Kareken,s paper supplements the Gramley-Cha arguments. He finds"the received money supply The following sections discuss the major aspects of eoryquite inadequate. His paper is designed to improve monetary analysis by constructing a theory the countercritique. These rejoinders may contribute of an individual bank as a firm. This theory is offered resulting clarification may remove some unnecessary s an explanation of a banks desired balance sheet disputes. Even though the central contentions of the position. It also appears to form the basis of a model controversy will remain, the continuous articulation describing the interaction of the publics and the of opposing points of view plays a vital role in the banks behavior in the joint determination of the money search for greater understanding of the monetary stock, bank credit and interest rates. The whole development emphasizes somewhat suggestively the portance of the public's and banks' behavior in A Summary of the Countercritique to undermine the empirical hypothe. is also designed es advanced by The four articles relied on two radically different the monetarist position. This is achieved by means groups of arguments. Gramley-Chase, Kareken and of explicit references to specific and"obviously de- acy exploit the juxtaposition "New View ve Traditional View"as the central idea guiding their sirable features of the model presented countercritique. The analytical framework developed Cacy's article develops neither an explicit frame under the"Traditional View"label. On the other advanced by the Monetarist thesis. However,he by the critique in order to organize his arguments provides a useful summary of the general position of the countercritique. The Monetarist analysis is con Gramley-Chase describe their general venient ntly subsumed by Cacy under a"Traditional in the following words (New) developments have reaffirmed the monetary mechanisms: "The new approach argues bankers point of view that deposits are attracted that there is no essential difference between the manner in which the liabilities of banks and environment, growth rates of deposits have be- nonbank financial institutions are determined. Both conduct of monetary policy .. A framework of the portfolio decisions of the public. "3 The new analysis [is required] from which the significance approach is contrasted with the Traditional View of time deposits and of changing time deposits which "obscures the important role played by the can be deduced. Traditional methods of mone- public and overstates the role played by the central tary analysis are not well suited to this task. The bank in the determination of the volume of money Viewin monetary economics provides a balances. 4 The general comparison developed by useful analytical framework. In the new Cacy suggests quite clearly to the reader that the banks- like other financial institutions Traditional View allegedly espoused by the Mone- are considered as suppliers of financial claims for tarist position cannot match the "realistic sense"of the public to hold, and the public is given a the New view advocated by the countercritique significant role in determining the total amount of bank liabilities.... Traditional analysis In the context of the framework developed by the fails to recognize that substitution between time critique, Davis questions some basic propositions of deposits and securities may be an important the Monetarist position ource of pro-cyclical variations in the stock of In the past five to ten years, however, there has come into increasing prominence a group of bank policy. 2 economists who would like to go considerably This general argument guided the construction of the simple assertion that the bel avior an explicit model designed to emphasize the role of money is a significant factor influencing the the public s and the banks behavior in the determina behavior of the economy... In order to bring a few of the issues into sharper focus, this article tion of the money stock, bank credit and interest rates. cy, pp 5&7. Gramley-Chase, pp. 1380, 1381, 1393

________ ..: ¼,.~:.t .,j~~aS.’~!M~%’.~ role of monetary policy and what are the require￾ments of rational policymaking? The following sections discuss the major aspects of the countercritique. These rejoinders may contribute to a better understanding of the issues, and the resulting clarification may remove some unnecessary disputes. Even though the central contentions of the controversy will remain, the continuous articulation of opposing points of view plays a vital role in the search for greater understanding of the monetary process. A Summary of the Countercritique The four articles relied on two radically different groups of arguments. Gramley-Chase, Kareken and Cacy exploit the juxtaposition “New View versus Traditional View” as the central idea guiding their countercritique. The analytical framework developed by the critique is naturally subsumed for this purpose under the “Traditional View” label. On the other hand, Davis uses the analytical framework developed by the critique in order to organize his arguments. Gramley-Chase describe their general argument in the following words: “(New) developments have reaffirmed the bankers’ point of view that deposits are attracted, not created, as textbooks suggest. In this new environment, growth rates of deposits have be￾come more suspect than ever as indicators of the conduct of monetary policy. . . . A framework of analysis [is required] from which the significance of time deposits and of changing time deposits can be deduced. Traditional methods of mone￾tary analysis are not well suited to this task. The ‘New View’ in monetary economics provides a more useful analytical framework. In the new view, banks — like other financial institutions — are considered as suppliers of financial claims for the public to hold, and the public is given a significant role in determining the total amount of bank liabilities. .. . Traditional analysis fails to recognize that substitution between time deposits and securities may be an important source of pro-cyclical variations in the stock of money even in the face of countercycical central bank policy.”2 This general argument guided the construction of an explicit model designed to emphasize the role of the public’s and the banks’ behavior in the determina￾tion of the money stock, bank credit and interest rates. 2 Cramley-Chase, pp. 1380, 1381, 1393. Kareken’s paper supplements the Gramley-Chase arguments. He finds “the received money supply theory” quite inadequate. His paper is designed to improve monetary analysis by constructing a theory of an individual bank as a firm. This theory is offered as an explanation of a bank’s desired balance sheet position. It also appears to form the basis of a model describing the interaction of the public’s and the banks’ behavior in the joint determination of the money stock, bank credit and interest rates. The whole development emphasizes somewhat suggestively the importance of the public’s and banks’ behavior in explanations of monetary growth. It is also designed to undermine the empirical hypotheses advanced by the Monetarist position. This is achieved by means of explicit references to specific and “obviously de￾sirable” features of the model presented. Cacy’s article develops neither an explicit frame￾work nor a direct critique of the basic propositions advanced by the Monetarist thesis. However, he provides a useful summary of the general position of the countercritique. The Monetarist analysis is con￾veniently subsumed by Cacy under a “Traditional View” which is juxtaposed to a “New View” of monetary mechanisms: “The new approach argues - . that there is no essential difference between the manner in which the liabilities of banks and nonbank financial institutions are determined. Both types of institutions are subject in the same way to the portfolio decisions of the public.”3 The new approach is contrasted with the Traditional View, which “obscures the important role played by the public and overstates the role played by the central bank in the determination of the volume of money balances,”4 The general comparison developed by Cacy suggests quite clearly to the reader that the Traditional View allegedly espoused by the Mone￾tarist position cannot match the “realistic sense” of the New View advocated by the countercritique. In the context of the framework developed by the critique, Davis questions some basic propositions of the Monetarist position: “In the past five to ten years, however, there has come into increasing prominence a group of economists who would like to go considerably beyond the simple assertion that the behavior of money is a significant factor influencing the behavior of the economy. . .. In order to bring a few of the issues into sharper focus, this article 3 Cacy, pp. 5 & 7. 4 lbid., p. 7. Page 10

will take a look at some evidence for the money of Empirical onjectures advanced without analytical jected by the Monetarist position, and an array supply view. It confines itself to examining the historical or en ubstantiation. Also, not a single pap relationship between monetary cycles and cycles the countercritique developed a relevant assess- in general business. The article concludes that ment of the Monetarists empirical theories or central the relationship between these two kinds of propositions cycles does not, in fact, provide any real support for the view that the behavior of money is the In sections B and c detailed examinations of predominant determinant of fluctuations in busi- specific conjectures ed on rival ex ness activity. Moreover, the historical relationship cyclical fluctuations of monetary growth are pre- between cycles in money and in business cannot sented. The direct on the monetarist position be used to demonstrate that monetary policy is, by Davis is discussed in some detail in Section D in its effects, so long delayed and so uncertain as This section also states the crucial propositions of to be an unsatisfactory countercyclical weapon. the Monetarist thesis in order to clarify some aspects An Examination of the Issues of this position. This reformulation reveals that the reservations assembled by Davis are quite innocuous A careful surv the countercritique yielded the They provide no analytical or empirical case against following results. The Gramley- Chase, Kareken, and the Monetarist thesis. Conjectures associated with the es- interpretation of monetary policy ( the " indicator tion the status of empirical theories used by the problem")are presented in Section E Monetarist critique in its examination of monetary policy. The Davis paper questions quite directly, on A. The New viet the other hand, the existence and relevance of the evidence in support of the Monetarist position, and The countercritique has apparently been decisively constitutes a direct assault on the Monetarist critique. influenced by programmatic elaborations originally The others constitute an indirect assault which at- published by Gurley-Shaw and James Tobin. 7 The tempts to devalue the critique's analysis, and thus to program is most faithfully reproduced by Cacy, and destroy its central propositions concerning the role it also shaped the arguments guiding the model of money and monetary policy construction Kareken and Gramley-Chase. The The indirect assault on the Monetarist position by New View, as a program, is a sensible resp Gramley-Chase, Kareken and Cacy requires a clari a highly unsatisfactory state of monetary analysis the nature of the New view inherited in the late 1950s, A money and banking a program of analysis must be clearly distinguished application of economic analysis to the financial sector. At most. this inherited literature contained onjectures 6 All three aspects are usually mixed only suggestive pieces of analysis. It lacked a mean gether in a general description. It is important to gful theory capable of ex responses understand, however, that neither research strategy the monetary system to policy actions or to in cations of the general program. The explicit separa- View proposed a systematic application of economic tion of the three aspects is crucial for a proper analysis, in particular an application of relative price assessment of the New view theory, to the array of financial intermediaries, their Section A examines some general characteristics of assets and liabilities the countercritique' s reliance on the New view. It shows the New View to consist of a program ac- This program is most admirable and incontestable but it cannot explain the confict revealed by critique ceptable to all economists, a research strategy re- and countercritique. The Monetarist approach ac tHese three aspects of the New View will subsequently be tion, this approach used the suggestions and andl. cepted the general principle of applying relative price theory to the analysis of monetary processes. In ac more fully. Their progran e application of relative price theory to analysis of financial John G. Gurley and Edward F. Shaw, Money in a Theory of growth and propositions about proper interpretation of policy udies, ed. Deane Carson Irwin, 1963) P

~...t .. ...‘..~. .. ...., -. . will take a look at some evidence for the ‘money supply’ view... It confines itself to examining the historical relationship between monetary cycles and cycles in general business. The article concludes that the relationship between these two kinds of cycles does not, in fact, provide any real support for the view that the behavior of money is the predominant determinant of fluctuations in busi￾ness activity. Moreover, the historical relationship between cycles in money and in business cannot be used to demonstrate that monetary policy is, in its effects, so long delayed and so uncertain as to be an unsatisfactory countercyclical weapon.”5 An Examination of the Issues A careful survey of the countercritique yielded the following results. The Gramley-Chase, Kareken, and Cacy papers parade the New View in order to ques￾tion the status of empirical theories used by the Monetarist critique in its examination of monetary policy. The Davis paper questions quite directly, on the other hand, the existence and relevance of the evidence in support of the Monetarist position, and constitutes a direct assault on the Monetarist critique. The others constitute an indirect assault which at￾tempts to devalue the critique’s analysis, and thus to destroy its central propositions concerning the role of money and monetary policy. The indirect assault on the Monetarist position by Gramley-Chase, Kareken and Cacy requires a clari￾fication concerning the nature of the New View. A program of analysis must be clearly distinguished from a research strategy and an array of specific conjectures.6 All three aspects are usually mixed together in a general description. It is important to understand, however, that neither research strategy nor specific empirical conjectures are logical impli￾cations of the general program. The explicit separa￾tion of the three aspects is crucial for a proper assessment of the New View. Section A examines some general characteristics of the countercritique’s reliance on the New View. It shows the New View to consist of a program ac￾ceptable to all economists, a research strategy 5 Davis, pp. 63-64. °These three aspects of the New View will subsequently be elaborated more fully. Their program of analysis refers to the application of relative price theory to analysis of financial markets and financial institutions. Their research strategy refers to a decision to initiate analysis in the context of a most general framework. Their specific conjectures refer to propositions concerning the causes of fluctuation of monetary growth and propositions about proper interpretation of policy. jected by the Monetarist position, and an array of specific conjectures advanced without analytical or empirical substantiation. Also, not a single paper of the countercritique developed a relevant assess￾ment of the Monetarist’s empirical theories or central propositions. In sections B and C detailed examinations of specific conjectures centered on rival explanations of cyclical fluctuations of monetary growth are pre￾sented. The direct assault on the Monetarist position by Davis is discussed in some detail in Section D. This section also states the crucial propositions of the Monetarist thesis in order to clarify some aspects of this position. This refonnulation reveals that the reservations assembled by Davis are quite innocuous. They provide no analytical or empirical case against the Monetarist thesis. Conjectures associated with the interpretation of monetary policy (the “indicator problem”) are presented in Section E. A. The New View The countercritique has apparently been decisively influenced by programmatic elaborations originally published by Gurley-Shaw and James Tobin.7 The program is most faithfully reproduced by Cacy, and it also shaped the arguments guiding the model construction by Kareken and Gramley-Chase. The New View, as a program, is a sensible response to a highly unsatisfactory state of monetary analysis inherited in the late 1950’s. A money and banking syndrome perpetuated by textbooks obstructed the application of economic analysis to the financial sector. At most, this inherited literature contained only suggestive pieces of analysis. It lacked a mean￾ingful theory capable of explaining the responses of the monetary system to policy actions or to in￾fluences emanating from the real sector. The New View proposed a systematic application of economic analysis, in particular an application of relative price theory, to the array of financial intermediaries, their assets and liabilities. This program is most admirable and incontestable, but it cannot explain the conflict revealed by critique and countercritique. The Monetarist approach ac￾cepted the general principle of applying relative price theory to the analysis of monetary processes. In addi￾tion, this approach used the suggestions and analyti￾John C. Gurley and Edward F. Shaw, Money in a Theory of Finance, (Washington: Brookings Institute, 1960). James Tobin, “Commercial Banks as Creators of Money,” Ranking and Monetary Studies, ed. Deane Carson (II. D. Irwin, 1963). Page 11

cal pieces inherited from past efforts in order to Two sources of the conflict have been recognized develop some specific hypotheses which do explain thus far. The Monetarists research strategy was con- portions of our observable environment. The New cerned quite directly with the construction of em- Viewers' obvious failure to recognize the limited con- pirical theories about the monetary system, whereas tent of their programmatic statements only contrib- the New View indulged, for a lengthy interval,in utes to maintenance of the conflict ery general programmatic excursions. Moreover, the New viewers apparently misconstrued their program A subtle difference appears, however, in the re- as being a meaningful theory about our observable search strategy. The New View was introduced essen tially as a generalized approach, including a quite third source of the persistent conflict ributed to a ronment. This logical formal exposition, but with little attempt at specific structuring and empirical content. The most impres- The latter source arises from the criticism ad sive statements propagated by the New View were dressed by the New Viewers to the Monetarists'the- crucially influenced by the sheer formalism of its ories of money supply processes. Three of the papers exposition. In the context of the New View's almost exploit the logically dubious but psychologically ef empty form, little remains to differentiate one object fective juxtaposition between a"New View"and a rom another. For instance, in case one only admits Traditional View. In doing this they fail to dis he occurrence of marginal costs and marginal yield uish between the inherited state of monetary associated with the actions of every household, firm, system analysis typically reflected by the money and financial intermediary, one will necessarily con- and banking textbook syndrome and sear clude that banks and non-bank financial intermedi- output of economists advocating the monetarist thesis aries are restricted in size by the same economic This distinction is quite fundamental forces and circumstances, In such a context there analogies misled the New Viewers and they did not is truly no essential difference between the deter- recognize the logical difference between detailed mination of bank and non-bank intermediary liabili- formulations of empirical theories on the one side ties,or between banks and non-bank intermediaries, and haphazard pieces of unfinished analysis on the or between money and other financial assets other side. 9 The strong impressions conveyed by the New View A related failure accompanies this logical hus result from the relative emptiness of the formu- There is not the slightest attempt to assess lation which has been used to elaborate their position. native hypothe theories by systematic exposure In the context of the formal world of the New to observations from the real world. It follows, there- View,"almost everything is almost like everything fore, that the countercritique scarcely analyzed the else". This undifferentiated state of affairs is not, how- empirical theories advanced by the Monetarist critique ever, a property of our observable world. It is only a property of the highly formal discussion designed book by Pesek and ealth and y the New View to overcome the unsatisfactor state of monetary analysis still prevailing in the late by Harry 1950s or early 1960s. 8 and bank As examples of the empirical work performed by the Mone- ADequate analysis of the medium of exchange function of tarists, the reader should consult the following works: Milton honey, or of the cor Frie thing else. "This analysis requires proper recognition that marginal cost of information concerning qualities and prop the assets involved. The analysis of the wealth position of Puzzles in u.s. monetar ivity of iney, requires recognition of the marginal produc- 6, Padova, Italy, Karl Brunner and Robert Crouch honey to the holder he relevant differences between of the New view s standard on hain nsult a preliminary approach to the analysis of the medmay program cannot cope with these issues lso consult for both issues the important August 17, 196 Page 12

Wh.~ .. . ~ ., ~~z.atq~ ‘~ ‘~a~ cal pieces inherited from past efforts in order to develop some specific hypotheses which do explain portions of our observable environment. The New Viewers’ obvious failure to recognize the limited con￾tent of theft programmatic statements only contrib￾utes to maintenance of the conflict. A subtle difference appears, however, in the re￾search strategy. The New View was introduced essen￾tially as a generalized approach, including a quite formal exposition, but with little attempt at specific structuring and empirical content. The most impres￾sive statements propagated by the New View were crucially influenced by the sheer formalism of its exposition. In the context of the New View’s almost empty form, little remains to differentiate one object from another, For instance, in case one only admits the occurrence of marginal costs and marginal yields associated with the actions of every household, firm, and financial intermediary, one will necessarily con￾clude that banks and non-bank financial intermedi￾aries are restricted in size by the same economic forces and circumstances, In such a context there is truly no essential difference between the deter￾mination of bank and non-bank intermediary liabili￾ties, or between banks and non-bank intermediaries, or between money and other financial assets. The strong impressions conveyed by the New View thus result from the relative emptiness of the formu￾lation which has been used to elaborate their position. In the context of the formal world of the New View, “almost everything is almost like everything else”. This undifferentiated state of affairs is not, how￾ever, a property of our observable world. It is only a property of the highly formal discussion designed by the New View to overcome the unsatisfactory state of monetary analysis still prevailing in the late 1950’s or early 1960’s.8 8Adcquate analysis of the medium of exchange function of money, or of the conditions under which inside money be￾comes a component of wealth, was obstmcted by the pro￾grammatic state of the New View. The useful analysis of the medium-of-exchange function depends on a decisive rejec- tion of the assertion that “everything is almost like every￾thing else.” This analysis requires proper recognition that the marginal cost of information concerning qualities and prop￾erties of assets differs substantially between assets, and that the marginal cost of readjusting asset positions depends on the assets involved. The analysis of the wealth position of inside money requires recognition of the marginal produc￾tivity of inside money to the holder. Adequate attention to the relevant differences between various cost or yield functions associated with different assets or positions is required by both problems. The blandness of the New View’s standard program cannot cope with these issues. The reader may consult a preliminary approach to the analysis of the medium of exchange function in the paper by Karl Brunner and Allan H. Meltzer, in the Journal of Finance, 1964, listed in footnote 9. He should also consult for both issues the important Two sources of the conflict have been recognized thus far. The Monetarists’ research strategy was con￾cerned quite directly with the construction of em￾pirical theories about the monetary system, whereas the New View indulged, for a lengthy interval, in very general programmatic excursions. Moreover, the New Viewers apparently misconstrued their program as being a meaningful theory about our observable environment. This logical error contributed to a third source of the persistent conflict. The latter source arises from the criticism ad￾dressed by the New Viewers to the Monetarists’ the￾ories of money supply processes. Three of the papers exploit the logically dubious but psychologically ef￾fective juxtaposition between a “New View” and a “Traditional View.” In doing this they fail to dis￾tinguish between the inherited state of monetary system analysis typically reflected by the money and banking textbook syndrome and the research output of economists advocating the Monctarist thesis. This distinction is quite fundamental, Some formal analogies misled the New Viewers and they did not recognize the logical difference between detailed formulations of empirical theories on the one side and haphazard pieces of unfinished analysis on the other side.° A related failure accompanies this logical error. There is not the slightest attempt to assess alter￾native hypotheses or theories by systematic exposure to observations from the real world. It follows, there￾fore, that the countercritique scarcely analyzed the empirical theories advanced by the Monetarist critique book by Boris Pesek and Thomas Saving, Money, Wealth and Economic Theory, The Macmillan Company, New York, 1967, or the paper by Harry Johnson, “Inside Money, Outside Money, Income, Wealth and Welfare in Monetary Theory, to be published in The Journal of Money, Credit and Rank￾ing, December 1968. 9 As examples of the empirical work performed by the Mone￾tarists, the reader should consult the following works: Milton Friedman and Anna Jacobson Schwartz, A Monetary History of the United States, 1867-1960, (Princeton: Princeton Uni￾versity Press, 1963). Philip Cagan, Determinants and Effects of Changes in the Stock of Money, (Columbia: Columbia University Press, 1965). Karl Brunner and Allan H. Meltzer, “Sonic Further Investigations of Demand and Supply Func￾tions for Money,” Journal of Finance, Volume XIX, May 1964. Karl l3runncr and Allan H. Meltzer, ‘A Credit-Market Theory of the Money Supply and an Explanation of Two Puzzles in U.S. Monetary Pohcy,” Essays in Honor of Marco Eanno, 1966, Padova, Italy. Karl Brunner and Robert Crouch, “Money Supply Theory and British Monetary Experience, Methods of Operations Research III — Essays in Honor of Wilhelm Krelle, ed. Rudolf Henn (Published in Meisenheim, Germany, by Anton Ham, 1966). Karl Brunner, “A Schema for the Supply Theory of Money,” International Economic Review, 1961. Karl Brunner and Allan H. Meltzer, “An Al￾ternative Approach to the Monetary Mechanism,” Subcom￾mittee on Domestic Finance, Committee on Banking and Currency, House of Representatives, August 17, 1964. Page 12

and consequently failed to understand the major im- B. A Monetarist Examination of the New plications of these theorie Views Money Supply Theory For instance, they failed to recognize the role as signed by the Monetarist view to banks' behavior and Three sources of the confict have been discussed thus far. Two sources were revealed as logical mis The objection raised by the New View that "the construals, involving inadequate construction and as formula [expressing a basic framework used to form sessment of empirical theories. a third source pertains ulate the hypothesis] obscures the important role to legitimate differences in research strategy. These played by the public"has neither analytical basis three sources do not explain all major aspects of the nor meaning. In fact, the place of the public's b conflict. Beyond the differences in research strategy havior was discussed in the Monetarist hypotheses in and logical misconceptions, genuinely substantive some detail moreover, the same analysis discussed issues remain. Some comments of protagonists advo cating the New View should probably be interpreted dominates movements of the money stock and bank as conjectures about hypotheses to be expected from credit.10 It also yielded information about the re- their research strategy. It should be clearly under sponse of bank credit, money stock and time de stood that such conjectures are not logical implications posits to changes in ceiling rates, or to changes in of the guiding framework. Instead, they are pragmatic the speed with which banks adjust their deposit. responses to the general emphasis associated with this supply conditions to evolving market situations. Every approach single aspect of the banks' or the public's behavior A first conjecture suggests that the money stock emphasized by the countercritique has been analyzed and bank credit are dominated by the public's and the by the Monetarists hypotheses in terms which render banks' behavior. It is suggested, therefore, that cy- he results empirically assessable. Little remains, chical fluctuations of monetary growth result primarily consequently, of the suggestive countercritique as- from the responses of banks and the public to chang sembled in the papers by Gramley-Chase, Kareken ing business conditions. A second conjecture naturally and Cacy. 1 supplements the above assertions. It is contended that the money stock is a thoroughly "untrustworthy 10TI der will find this analysis in the following papers nterest Rate Articles by Gramley-Chase and Kareken attempt and Allan H to support these conjectures with the aid of more plicit analytical formulations allegedly ③p: Honor of Marco Fanno, Padova, Ita,s the general program of the New View. The paper 11The reader is, of course, aware that these assertions req contributed by Grarmley-Chase has been critically ex amined in detail on another occasion, 12 and only some ould check for himself. If he crucial aspects relevant for our present purposes will of the Monetarists' major be considered at this point. Various aspects of the detailed analysis of the banks'and the public's role in the section. The second conjecture is examined in sec- tions d and e In ou books. This analysis, by its very existence, falsifies some of California at Los Angeles, 1966 of an innocuous achievement was sup qualifying an empirical statement always yields a sta formative. The limit establishe New View or Any View, just as we always knew that may or may not rain tomorrow. hould not her ations arch 2The read eserve PolIc tary analys y Karl brunner footnote 9 1966),and the study by Peter Frost,"Banks' Demand for ontributions by Patric H. Hendershott and Robert We survey critically the issues raised by the gramley Excess Reserves, an unpublished dissertation submitted to Page 13

and consequently failed to understand the major im￾plications of these theories. For instance, they failed to recognize the role as￾signed by the Monetarist view to banks’ behavior and the public’s preferences in the monetary process. The objection raised by the New View that “the formula [expressing a basic framework used to form￾ulate the hypothesis] obscures the important role played by the public” has neither analytical basis nor meaning. In fact, the place of the public’s be￾havior was discussed in the Monetarist hypotheses in some detail. Moreover, the same analysis discussed the conditions under which the public’s behavior dominates movements of the money stock and bank credit.b0 It also yielded information about the re￾sponse of bank credit, money stock and time de￾posits to changes in ceiling rates, or to changes in the speed with which banks adjust their deposit￾supply conditions to evolving market situations. Every single aspect of the banks’ or the public’s behavior emphasized by the countercritique has been analyzed by the Monetarist’s hypotheses in terms which render the results empirically assessable. Little remains, consequently, of the suggestive countercritique as￾sembled in the papers by Gramley-Chase, Kareken and Cacy.” 10 The reader will find this analysis in the following papers: Karl Brunner and Allan H, Meltzer, “Liquidity Traps for Money, Bank Credit, and Interest Rates,” Journal of Political Economy, April 1968. Karl Brunner and Allan H. Meltzer, “A Credit-Market Theory of the Money Supply and an Explanation of Two Puzzles in U.S. Monetary Policy, Essays in Honor of Marco Fanno, Padova, Italy, 1966. B. A Monetarist Examination of the New View’s Money Supply Theory Three sources of the conflict have been discussed thus far. Two sources were revealed as logical mis￾construals, involving inadequate construction and as￾sessment of empirical theories. A third source pertains to legitimate differences in research strategy. These three sources do not explain all major aspects of the conflict. Beyond the differences in research strategy and logical misconceptions, genuinely substantive issues remain. Some comments of protagonists advo￾cating the Ne\v View should probably be interpreted as conjectures about hypotheses to be expected from their research strategy. It should be clearly under￾stood that such conjectures are not logical implications of the guiding framework. Instead, they are pragmatic responses to the general emphasis associated with this approach. A first conjecture suggests that the money stock and bank credit are dominated by the public’s and the banks’ behavior. It is suggested, therefore, that cy￾clical fluctuations of monetary growth result primarily from the responses of banks and the public to chang￾ing business conditions. A second conjecture naturally supplements the above assertions, It is contended that the money stock is a thoroughly “untrustworthy guide to monetary policy”. Articles by Gramley-Chase and Kareken attempt to support these conjectures with the aid of more explicit analytical formulations allegedly expressing the general program of the New View. The paper contributed by Gramley-Chase has been critically ex￾amined in detail on another occasion,’2 and only some crucial aspects relevant for our present purposes will be considered at this point. Various aspects of the first conjecture are examined in this and the next section. The second conjecture is examined in sec￾tions D and E. liThe reader is, of course, aware that these assertions require analytic substantiation. Such substantiation cannot be sup￾plied within the confines of this article. But the reader could check for himself. If he finds, in the context of the countercritique, an analysis of the Monetarists’ major hypotheses, an examination of implication, and exposure to observations, I would have to withdraw my statements. A detailed analysis of the banks’ and the public’s role ia the money supply, based on two different hypotheses previously reported in our papers will be developed in our forthcoming books. This analysis, by its very existence, falsifies some major objections made by Cacy or Gramley-Chase. Much of their criticism is either innocuous or fatuous. Gramley￾Chase indulge, for instance, in modality statements, i.e. statements obtained from other statements by prefixing a modality qualifier like “maybe” or “possibly.” The result of qualifying an empirical statement always yields a statement which is necessarily true but also quite uninformative. The modality game thus yields logically pointless but psycho￾logically effective sentences. Cacy manages, on the other hand, some astonishing assertions. The New View is credited with the discovery that excess reserves vary over time. He totally disregards the major contributions to the analysis of excess reserves emanating from the Monetarists’ research. A detailed analysis of excess reserves was developed by Milton Friedman and Anna Schwartz in the book men￾tioned in footnote 9. The reader should also note the work by Ceorge Morrison, Liquidity Preferences of Com￾mercial Banks, (Chicago: University of Chicago Press, 1966), and the study by Peter Frost, “Banks’ Demand for Excess Reserves,” an unpublished dissertation submitted to the University of California at Los Angeles, 1966. The classic example of an innocuous achievement wns supplied by Cacy with the assertion: the actual volume of money balances determined by competitive market forces may or may not be equal to the upper limit established by the central bank.” (p. 8). Indeed, we knew this before the New View or Any View, just as we always knew that “it may or may not rain tomorrow.” The reader should note that similar statements were produced by other authors with all the appearances of menningful elaborations. ‘ 2 The reader may consult my chapter “Federal Reserve Policy and Monetary Analysis” in Indicators and Targets of Mone￾tary Policy, ed., by Karl Brunner, to be published by Chan￾dler House Publishing Co., San Francisco. This book also contains the original article by Gramley-Chnse. Further contributions by Patric H. Hendershott and Robert Weintraub survey critically the issues raised by the Cramley.Chase paper. Page 13

a detailed analysis of the Gramley-Chase model ABe and AY. This information has not been pro demonstrates that it implies the following reduced by the authors. form equations explaining the money stock(M)and Most interesting is another aspect of the model bank credit(E)in terms of the extended monetary which was not clarified by the authors. Their model E=h(Be, Y,c) h>0> h2, and h1> g1, cyclical movements in AM. This model exemplifying base(Be),the level of economic activity expressed the New view thus yields little justification for the by national income at current prices(),and the ceiling rate on time deposits(c). 14 conjectures of its proponents The Gramley-Chase model implies that monetary A central property of the Gramley-Chase model policy does affect the money stock and bank credit must be considered in the light of the programmatic statements characterizing the New View. Gramley It also implies that the money stock responds posi- Chase do not differentiate between the public's asset tively and bank credit negatively to economic activity. This model thus differs from the Monetarist hypothe- This procedure violates the basic program of the ses which imply that both bank credit and the money New View, namely, to apply economic analysis to an stock respond positively to economic activity. The array of financial assets and financial institutions Gramley-Chase model also implies that the responses Economic analysis implies that the public's asset sup of both the money stock and bank credit to mone- ply and money demand are distinct, and not identical tary actions are independent of the general scale of behavior patterns. This difference in behavior pat the public's and the banks'interest elasticities. Uni- terns is clearly revealed by different responses of formly large or small interest elasticities yield the esired money balances and desired asset supply to same response in the money stock or bank credit to specific stimuli in the environment. For instance,an a change in the monetary base. increase in the expected real yield on real capita A detailed discussion of the implications derivable raises the public's asset supply but lowers the public's from a meaningfully supplemented Gramley-Chase money demand. It follows thus that a central analy model is not necessary at this point. We are foremost tical feature of the Gramley-Chase model violates the propositions mentioned in the previous paragraph. View sic and quite relevant program of the New interested in the relation between this model and the The first proposition can be interpreted in two differ Kareken s construction shares this fundamental ent ways. According to one interpretation, it could analytical flaw with the Gramley. Chase model, but mean that the marginal multpliers g and h(i=1, 2) this is not the only problem faced by his analysis are functions of the banksand the public's response The Kareken analysis proceeds on two levels. First, patterns expressing various types of substitution rela- he derives a representative bank's desired balance tions between different assets. This interpretation is, sheet position. For this purpose he postulates wealth however, quite innocuous and yields no differentia tion relative to the questioned hypotheses of the maximization subject to the banks balance sheet Monetarist position. relation between assets and liabilities, and subject to reserve requirements on deposits. On closer examina A second interpretation suggests that the growth tion, this analysis is only applicable to a monopoly ate of the money stock is dominated by the second bank with no conversion of deposits into currency component (changes in income) of the differential or reserve fows to other banks. In order to render expression the analysis relevant for a representative bank in △M=g1△B+g2△Y the world of reality, additional constraints would This result is not actually implied by the gramley have to be introduced which modify the results quite Chase model, but it is certainly consistent with the substantially. It is also noteworthy that the structural model. However, in order to derive the desired result, properties, assigned by Kareken to the system of their model must be supplemented with special as- sumptions about the relative magnitude of g, and g2, implications one can derive from the author's analy and also about the comparative cyclical variability of Iis of firm behavior developed on the first level of his investigation 13In the Gramley-Chase model, g3 and h3 are indeterminant This disregard for the construction of an economic r listed in foot theory relevant for the real world is carried into the reserves by cha liberated from or impounded into related second level of analysis where the author formulates system of relations describing the joint determina Page 14

A detailed analysis of the Graniley-Chase model demonstrates that it implies the following reduced form equations explaining the money stock (M) and bank credit (E) in terms of the extended monetary M=g(BC, Y, c) g1 >0 C g2, E =h(Be, Y, c) h1 > 0 > h2 , and h1 > g1 13 base (Be), the level of economic activity expressed by national income at current prices (Y), and the ceiling rate on time deposits (c).’4 The Gramley-Chase model implies that monetary policy does affect the money stock and bank credit. It also implies that the money stock responds posi￾tively and bank credit negatively to economic activity. This model thus differs from the Monetarist hypothe￾ses which imply that both bank credit and the money stock respond positively to economic activity. The Gramley-Chase model also implies that the responses of both the money stock and bank credit to mone￾tary actions are independent of the general scale of the public’s and the banks’ interest elasticities. Uni￾formly large or small interest elasticities yield the same response in the money stock or bank credit to a change in the monetary base. A detailed discussion of the implications derivable from a meaningfully supplemented Gramley-Chase model is not necessary at this point. We are foremost interested in the relation between this model and the propositions mentioned in the previous paragraph. The first proposition can be interpreted in two differ￾ent ways. According to one interpretation, it could mean that the marginal multipliers g5 and h1 (i = 1, 2) are functions of the banks’ and the public’s response patterns expressing various types of substitution rela￾tions between different assets. This interpretation is, however, quite innocuous and yields no differentia￾tion relative to the questioned hypotheses of the Monetarist position. A second interpretation suggests that the growth rate of the money stock is dominated by the second component (changes in income) of the differential expression: AM = g1 ABC + g2 AY This result is not actually implied by the Gramley￾Chase model, but it is certainly consistent with the model. However, in order to derive the desired result, theft model must be supplemented with special as￾sumptions about the relative magnitude of g, and g 2, and also about the comparative cyclical variability of 181n the Gramley-Chase model, g~and h 3 are indeterminant. t4This implication was demonstrated in my paper listed in foot￾note 12. The monetary base is adjusted for the accumulated sum of reserves liberated from or impounded into required reserves by changes in requirement ratios. ABC and AY. This information has not been provided by the authors. Most interesting is another aspect of the model which was not clarified by the authors. Theft model implies that policymakers could easily avoid pro￾cyclical movements in AM. This model exemplifying the New View thus yields little justification for the conjectures of its proponents. A central property of the Gramley-Chase model must be considered in the light of the programmatic statements characterizing the New View. Gramley￾Chase do not differentiate between the public’s asset supply to banks and the public’s demand for money. This procedure violates the basic program of the New View, namely, to apply economic analysis to an array of financial assets and financial institutions. Economic analysis implies that the public’s asset sup￾ply and money demand are distinct, and not identical behavior patterns. This difference in behavior pat￾terns is clearly revealed by different responses of desired money balances and desired asset supply to specific stimuli in the environment. For instance, an increase in the expected real yield on real capital raises the public’s asset supply but lowers the public’s money demand. It follows thus that a central analy￾tical feature of the Gramley-Chase model violates the basic and quite relevant program of the New View. Kareken’s construction shares this fundamental analytical flaw with the Gramley-Chase model, but this is not the only problem faced by his analysis. The Kareken analysis proceeds on two levels. First, he derives a representative bank’s desired balance sheet position. For this purpose he postulates wealth maximization subject to the bank’s balance sheet relation between assets and liabilities, and subject to reserve requirements on deposits. On closer examina￾tion, this analysis is only applicable to a monopoly bank with no conversion of deposits into currency or reserve flows to other banks. In order to render the analysis relevant for a representative bank in the world of reality, additional constraints would have to be introduced which modify the results quite substantially. it is also noteworthy that the structural properties assigned by Kareken to the system of market relations are logically inconsistent with the implications one can derive from the author’s analy￾sis of finn behavior developed on the first level of his investigation. This disregard for the construction of an economic theory relevant for the real world is carried into the second level of analysis where the author formulates a system of relations describing the joint determina￾Page 14

tion of interest rates, bank credit, and money stock. But the declaration of innocence by the counter- A remarkable feature of the Kareken model is that critique on behalf of the monetary authorities with it yields implications whatsoever about the re- respect to cyclical fluctuations of monetary growth ponse of the monetary system to actions of the still requires further assessment Federal Reserve. It can say nothing, as it stands about either open market operations or about discount The detailed arguments advanced to explain rate and reserve requirement actions. This model observed cyclical fuctuations of monetary growth literally implies, for instance, that the money stock differ substantially among the contributors to the and the banking system's deposit liabilities do not countercritique GramleyChase maintain that chang change as a result of any change in reserve require- ing business conditions modify relative interest rates, time deposit ratio. These movements in demand and None of the conjectures advanced by the counter- time deposits generate cyclical fluctuations in mone- ritique concerning the behavior of the money stock tary growth. On the other hand, Cacy develops an and the role of monetary policy find analytical sup- argument used many years ago by Wicksell and port in Kareken's analysis. To the extent that any- Keynes, but attributes it to the New view. He recog thing is implied, it would imply that monetary policy nizes a pronounced sensitivity of the money stock to operating directly on bank reserves or a mysterious variations in the public's money demand or asset rate of return on reserves dominates the volume of supply. These variations induce changes in credit deposits-a practically subversive position for a fol- market conditions. Banks, in turn, respond with suit lower of the New view. 15 able adjustments in the reserve and borrowing ratios The money stock and bank credit consequent C. Alternative Explanations of Cyclical change in response to this mechanism Fluctuations In Monetary Growth Davis actually advances two radically different The examination thus far in this article has shown conjectures about causes of cyclical fluctuations of that even the most explicit formulation (Gramley- fuctuations of monetary growth to the public's and Chase)of the countercritique, allegedly representing banks'responses. Changing business conditions modify the New View with respect to monetary system anal- the currency ratio, the banks,borrowing ratio, and sis, does assign a significant role to monetary policy. the reserve ratio. The resulting changes generate the This examination also argued that the general e- observed movements in money. His other conjecture phasis given by the New View to the public's and attributes fluctuations in monetary growth to Federal the banks' behavior in determination of the money Reserve actions: "the state of business infuences stock and bank credit does not differentiate its prod- decisions by the monetary authorities to supply uct from analytical developments arising from the reserves and to take other actions likely to affect the Monetarist approach. It was also shown that the only money supply. 16 explicit formulation advanced by the New Viewers does not provide a sufficient basis for their central The various conjectures advanced by gramme conjectures. It is impossible to derive the proposition Chase, Cacy, and Davis in regard to causes of move from the gramley-Chase model that the behavior of ments in money and bank credit can be classified the public and banks, rather than Federal Reserve into two groups. One set of conjectures traces the actions, dominated movements in the money supply. mechanism generating cyclical fuctuations of mone- tary growth to the responses of banks and the public 14Two dire nds er-Meltzer analysis nt about monetary policy in the potheses ley-Chase model contain given this fact, the behavior of the rate of growth of the ed, all hypot ne cognitive status of an empirical henever polic ing "has been provided. Kareken also finds fault &End directly the result of policy alones is melted due to the s pigu designate a strategy guiding the adjustment the quote could easily status of a hypothesis depends only on this ind not The quote is quite acceptable in the first sense of on names attached to statements ut thoroughly eptable in the second Page 15

tion of interest rates, bank credit, and money stock. A remarkable feature of the Kareken model is that it yields no implications whatsoever about the re￾sponse of the monetary system to actions of the Federal Reserve. It can say nothing, as it stands, about either open market operations or about discount rate and reserve requirement actions. This model literally implies, for instance, that the money stock and the banking system’s deposit liabilities do not change as a result of any change in reserve require￾ment ratios. None of the conjectures advanced by the counter￾critique concerning the behavior of the money stock and the role of monetary policy find analytical sup￾port in Kareken’s analysis. To the extent that any￾thing is implied, it would imply that monetary policy operating directly on bank reserves or a mysterious rate of return on reserves dominates the volume of deposits — a practically subversive position for a fol￾lower of the New View.’5 C. Alternative Explanations of Cyclical Fluctuations in Monetary Growth The examination thus far in this article has shown that even the most explicit formulation (Gramley￾Chase) of the countercritique, allegedly representing the New View with respect to monetary system anal￾ysis, does assign a significant role to monetary policy. This examination also argued that the general em￾phasis given by the New View to the public’s and the banks’ behavior in determination of the money stock and bank credit does not differentiate its prod￾uct from analytical developments arising from the Monetarist approach. It was also shown that the only explicit forinulaflon advanced by the New Viewers does not provide a sufficient basis for their central conjectures. it is impossible to derive the proposition from the Graniley-Chase model that the behavior of the public and banks, rather than Federal Reserve actions, dominated movements in the money supply. 0 Two direct objections made to Brunner-Meltzer analysis by Kareken should be noted. He finds that the questioned hypotheses do not contain “a genuine supply function” of deposits. Accepting Kareken’s terminology, this is true, but neither does the Cramley-Chase model contain such a sup￾ply function. But the objection has no evidential value any￾way. If a hypothesis were judged unsatisfactory bechuse some aspects are omitted, all hypotheses are “unsatisfactory.” Moreover, the cognitive status of an empirical hypothesis does not improve simply because an “analytical underpin- ning” has been provided. Kareken also finds fault with our use of the term “money supply function.” Whether or not one agrees with his terminological preferences surely does not afiect the relation between observations and statements supplied by the hypothesis. And it should be clear that the status of a hypothesis depends only on this relation, and not on names attached to statements. But the declaration of innocence by the counter￾critique on behalf of the monetary authorities with respect to cyclical fluctuations of monetary growth still requires further assessment. The detailed arguments advanced to explain the observed cyclical fluctuations of monetary growth differ substantially among the contributors to the countercritique. Gramley-Chase maintain that chang￾ing business conditions modify relative interest rates, and thus induce countercyclical movements in the time deposit ratio, These movements in demand and time deposits generate cyclical fluctuations in mone￾tary growth. On the other hand, Cacy develops an argument used many years ago by Wicksell and Keynes, but attributes it to the New View. He recog￾nizes a pronounced sensitivity of the money stock to variations in the public’s money demand or asset supply. These variations induce changes in credit market conditions. Banks, in turn, respond with suit￾able adjustments in the reserve and borrowing ratios. The money stock and bank credit consequently change in response to this mechanism. Davis actually advances two radically different conjectures about causes of cyclical fluctuations of monetary growth. The first conjecture attributes fluctuations of monetary growth to the public’s and banks’ responses. Changing business conditions modify the currency ratio, the banks’ borrowing ratio, and the reserve ratio. The resulting changes generate the observed movements in money. His other conjecture attrihutes fluctuations in monetary growth to Federal Reserve actions: “the state of business influences decisions by the monetary authorities to supply reserves and to take other actions likely to affect the money supply.”1~ The various conjectures advanced by Gramley￾Chase, Cacy, and Davis in regard to causes of move￾ments in money and bank credit can be classified into two groups. One set of conjectures traces the mechanism generating cyclical fluctuations of mone￾tary growth to the responses of banks and the public; ‘ 6 Davis, p. 66. One argument about monetary policy in the same paPer requires clarification. Davis asserts on p. 68 that the money supply need not be the objective of policy, and “given this fact, the behavior of the rate of growth of the money supply during the period cannot be assumed to be simply and directly the result of monetary policy decisions alone”. This quote asserts that the money supply is “simply and directly the result of policy alone” whenever policy uses the money supply as a target. This is in a sense correct. But the quote could easily be misinterpreted due to the ambiguity of the term “policy”. This term is frequently used to designate a strategy guiding the adjustment of policy variables. It is also frequently used to refer to the behavior of the policy variables or directly to the variables as such. The quote is quite acceptable in the first sense of policy but thoroughly unacceptable in the second sense. Page 15

he behavior of monetary authorities is assigned a search We form the ratios of these values and write comparatively minor role. The other group of con M lectures recognizes the predominant role of th e be or=∝β havior of monetary authorities mo Bo The subscript I refers to values of the terminal In the following analysis the framework provided month and the subscript 0 to values of the initial by the monetarist view will be used to assess these conflicting conjectures. The empnasis concerning the month. These ratios were measured for each half nature of the causal mechanisms may diffe er between cycle in the period March 1919 to December 1966 the various conjectures regarding sources of variations hey were computed for two definitions of the money in money, but the following examination will be ap plied to an aspect common to all conjectures empha- corresponding monetary multipliers sizing the role of public and bank behavior Kendalls rank correlation coefficients between the honey stock ratios(u) and the multiplier ratios(a) In the context of the Monetarist framework, the and between (u) and the monetary base ratio money stock (M) is exhibited as a product of a (B) were computed, We denote these correlation multiplier(m)and the monetary base(B),(such coefficients with p(u, a)and p(u, B). The implica that M=mB). This framework, without the supple mentary set of hypotheses and theories bearing on the tions of the two rival conjectures can now be restated in terms of the two coefficients. The first group of proximate determinants of money summarized by the conjectures implies that p(u, a)> p(u, B); while respect to the rival conjectures; it is compatible with the second group implies that in periods of unchanged any set of observations. This neutrality assures reserve requirement ratios and ceiling rates on time deposits, the coefficient p(u, B)exceeds the coeff that its use does not prejudge the issue under con- cient p(u, a). The second group implies nothing sideration. The Monetarist framework operates in the about the relation of the two coefficients in periods of manner of a language system, able to express the changing reserve requirements and ceiling rates on implications of the competing conjectures in a uni- time deposits. It follows, therefore, that observations yielding the inequality p(β)>p(以,∝) disconfirm The first group of conjectures advanced by the the first group and confirm the second group countercritique(behavior of the public and banks dominates movements in money implies that varia The correlations obtained are quite unambig The value of p(u,B)is. 537 for the whole sample downswings in business activity are dominated by period, whereas p(H, a) is only 084. The half-cycle the variations in the monetary multiplier. The second group(behavior of monetary authorities dominates because movements in the money stock and the multi movements in money) implies that, in periods with pler were dominated by forces which do not discrimi- unchanged reserve requirement ratios and ceiling rates nate between the rival conjectures under consideration on time deposits, variations in the monetary base The sample period, including 1929 to 1933, still yields a dominate cyclical changes in monetary growth. The substantially larger value for p(u, B) e sam movements of the monetary multiplier which are pattem also holds for other subperiods. In particular strictly attributable to the changing of requirement computations based on observations for 1949 to 1966 ratios can be separated from the total contribution of confirm the pattern observed for the whole sample combine ned with the monetary base. period. The results thus support the second group of With this adjustment, the second group of conjectures conjectures but not the first group. These results also implies that the monetary base, Supplemented by the suggest, however, that forces operating through the contribution of reserve requirement changes to the multiplier are not quite negligible. The surprising/y multiplier, dominates variations in the money stock. small correlation p(u, a) does not adequately reveal the operation of these forces. Their effective opera- In this examination of contrasting explanations of tion is revealed by the correlation p(u, B), which is monetary fuctuations, values of the money stock far from perfect, even in subperiods with constant (m), and the monetary base reserve requirement ratios. This circumstance sug djusted for member bank borrowing(B)are meas- gests that the behavior of the public and banks con- ured at the initial and terminal month of each half tributes to the cyclical movements of monetary business cycle (i.e, expansions and contractions growth. The main result at this stage is, however, the located by the National Bureau of Economic Re- clear discrimination between the two groups of con

the behavior of monetary authorities is assigned a comparatively minor role. The other group of con￾jectures recognizes the predominant role of the be￾havior of monetary authorities. In the following analysis the framework provided by the Monetarist view will be used to assess these conflicting conjectures. The emphasis concerning the nature of the causal mechanisms may differ between the various conjectures regarding sources of variations in money, but the following examination will be ap￾plied to an aspect common to all conjectures empha￾sizing the role of public and bank behavior. In the context of the Monetarist framework, the money stock (M) is exhibited as a product of a multiplier (m) and the monetary base (B), (such that M = mB). This framework, without the supple￾mentary set of hypotheses and theories bearing on the proximate determinants of money summarized by the multiplier and the base, is completely neutral with respect to the rival conjectures; it is compatible with any set of observations, This neutrality assures us that its use does not prejudge the issue under con￾sideration. The Monetarist framework operates in the manner of a language system, able to express the implications of the competing conjectures in a uni￾fonn manner. The first group of conjectures advanced by the countercritique (behavior of the public and banks dominates movements in money) implies that varia￾tions in monetary growth between upswings and downswings in business activity are dominated by the variations in the monetary multiplier. The second group (behavior of monetary authorities dominates movements in money) implies that, in periods with unchanged reserve requirement ratios and ceiling rates on time deposits, variations in the monetary base dominate cyclical changes in monetary growth. The movements of the monetary multiplier which are strictly attributable to the changing of requirement ratios can be separated from the total contribution of the multiplier and combined with the monetary base. With this adjustment, the second group of conjectures implies that the monetary base, supplemented by the contribution of reserve requirement changes to the multiplier, dominates variations in the money stock. In this examination of contrasting explanations of monetary fluctuations, values of the money stock (M), the multiplier (m), and the monetary base adjusted for member bank borrowing (B) are meas￾ured at the initial and terminal month of each half business cycle (i.e., expansions and contractions) located by the National Bureau of Economic Re￾m1 B = — 1 M1~ m0 B0 The subscript 1 refers to values of the terminal month and the subscript 0 to values of the initial month. These ratios were measured for each half cycle in the period March 1919 to December 1966. They were computed for two definitions of the money stock, inclusive and exclusive of time deposits, with corresponding monetary multipliers. Kendall’s rank correlation coefficients between the money stock ratios (~.x)and the multiplier ratios (a), and between (tx) and the monetary base ratio ([3) were computed. We denote these correlation coefficients with p (~i, a) and p (~,j3). The implica￾tions of the two rival conjectures can now be restated in terms of the two coefficients. The first group of conjectures implies that p (t’~a) > p (ti, 1~);while the second group implies that in periods of unchanged reserve requirement ratios and ceiling rates on time deposits, the coefficient p (i~t, [3) exceeds the coeffi￾cient p (Fi, a). The second group implies nothing about the relation of the two coefficients in periods of changing reserve requirements and ceiling rates on time deposits. It follows, therefore, that observations yielding the inequality p (tx, 3) > p (i~.a) disconfirm the first group and confirm the second group. The correlations obtained are quite unambiguous. The value of p (p, 3) is .537 for the whole sample period, whereas p (~.t,a) is only .084. The half-cycle from 1929 to 1933 was omitted in the computations, because movements in the money stock and the multi￾plier were dominated by forces which do not discrimi￾nate between the rival conjectures under consideration. The sample period, including 1929 to 1933, still yields a substantially larger value for p (ti, f3). The same pattern also holds for other subperiods. In particular, computations based on observations for 1949 to 1966 confirm the pattern observed for the whole sample period. The results thus support the second group of conjectures but not the first group. These results also suggest, however, that forces operating through the multiplier are not quite negligible. The surprisingly small correlation p (ti, a) does not adequately reveal the operation of these forces. Their effective opera￾tion is revealed by the correlation p ([.L, [3), which is far from perfect, even in subperiods with constant reserve requirement ratios. This circumstance sug￾gests that the behavior of the public and banks con￾tributes to the cyclical movements of monetary growth. The main result at this stage is, however, the clear discrimination between the two groups of con￾search. We form the ratios of these values and write: Page 16

jectures. The results are quite unambiguous on this particularly in periods when the ceiling rate on time score deposits was increased. These periods exhibit rela- Additional information is supplied by Table I. For tively large contributions to the growth rate of bank each postwar cycle beginning with the downswing credit emanating from the time deposit substitution of 1948-49, the average annual growth rate of the mechanism money stock was computed. The expression M=mB A regression analysis (Table II)of th was then used to compute the contribution to the form equations derived from the Gramley-Chase average growth rate of money from three distinct model confirms the central role of the monetary base sources:(i)the behavior of monetary authorities(i.e, in the money supply process. Estimates of the regres e monet ry base and reserve requirement ratios), sion coefficient relating money to income are highly and the public's currency behavior, (ii) the time de- unstable among different sample periods, relative to posit substitution process, and,(iii) the variations in the coefficient relating money to the monetary base the excess reserve and borrowing ratios of commercial Furthermore, estimates of regression coefficients re- banks(Wicksell-Keynes mechanism lating money to income occur in some periods with TABLE II: A Comparison of Alternative Contributions to the Average essions of the Annual Growth Rate of the Money Stock and Bank Credit On the Monetary Base and G National Product* Rank Correlation Regression Coefficients For Bank Monetary Base Gross National Product Contribut wicksell- Keynes mechanism 04 1002 (3.12 growth rate of the money stock and bank credit with three different contributing 11/53 07 1.02 over all postwar half-cycles clearly support the con- 1 /57 clusion of the previous analysis that cyclical move- 1/60 11.76 11.81 【5.10) ments in the money stock are dominated by Federal 2.76 e actions Table I also presents the results of a similar . The monetary base was quarterly examination bearing on causes of movements in bank first entey iness, and partial corre lation coefficients oncoefficient.i-stotisies credit. The reader should note the radical difference ore in parent, o co in the observed patterns of correlation coefficients. signs which contradict the proposition of Gramley The behavior of monetary authorities, supplemented Chase and Cacy, or exhibit a very small statistical by the publics currency behavior, does not appear to significance. These diverse patterns of coefficients do dominate the behavior of bank credit. The three not occur for the estimates of coefficients relating sources contributing to the growth rate of money all money and the monetary base. It is also noteworthy exerted influences of similar order on bank credit. It that the average growth rate of the monetary base appears that bank credit is comparatively less exposed (adjusted for changes in reserve requirement ratios) to the push of Federal Reserve actions than was the over the upswings, exceeds without exception the money stock. On the other hand, the money stock is average growth rate of adjacent downswings. Thi less sensitive than bank credit to the time-deposit observation is not compatible with the contention substitution mechanism emphasized by gramley- made by Gramley-Chase that policy is countercyclical Chase, and the Wicksell-Keynes mechanism suggested Additional information is supplied by Table IIl by Cacy. Most astonishing, however, is the negatie which presents some results of a spectral analysis association between the average growth rate of bank credit and the Wicksell-Keynes mechanism em bearing on the monetary base and its sources. Spectral analysis is a statistical procedure for decomposing a time series into seasonal, cyclical, and trend It should also be noted that the average growth movements. After such an analysis was conducted ate of money conforms very clearly to the business the monetary base and its sources, a form of correla cycle. Such conformity does not hold for bank credit tion analysis was run between movements in the over the postwar half-cycles. This blurring occurred monetary base and movements in its various sources Page 17

jectures. The results are quite unambiguous on this score. Additional information is supplied by Table I. For each postwar cycle beginning with the downswing of 1948-49, the average annual growth rate of the money stock was computed. The expression M mB was then used to compute the contribution to the average growth rate of money from three distinct sources: (i) the behavior of monetary authorities (i.e., the monetary base and reserve requirement ratios), and the public’s currency behavior, (ii) the time de￾posit substitution process, and, (iii) the variations in the excess reserve and borrowing ratios of commercial banks (Wicksell-Keynes mechanism). TABLE I: A Comparison of Alternative Contributions to the Average Annual Growth Rote of the Money Stock and Bank Credit Rank Correlations Contribution made by~ Public’s currency and authorities’ behavior Time deposit substitution mechanism Wicksell-Keynes mechanism Remarks The figures listed state the rank correlation between the average growth rate of the money stock and bank credit with three different contributing sources. The rank correlations between each contribution, and the average growth rate of the money stock over all postwar half-cycles clearly support the con￾clusion of the previous analysis that cyclical move￾ments in the money stock are dominated by Federal Reserve actions. Table I also presents the results of a similar examination bearing on causes of movements in bank credit. The reader should note the radical difference in the observed patterns of correlation coefficients. The behavior of monetary authorities, supplemented by the public’s currency behavior, does not appear to dominate the behavior of bank credit. The three sources contributing to the growth rate of money all exerted influences of similar order on bank credit. It appears that bank credit is comparatively less exposed to the push of Federal Reserve actions than was the money stock. On the other hand, the money stock is less sensitive than bank credit to the time-deposit substitution mechanism emphasized by Gramley￾Chase, and the Wicksell-Keynes mechanism suggested by Cacy. Most astonishing, however, is the negative association between the average growth rate of bank credit and the Wicksell-Keynes mechanism em￾phasized by Cacy. It should also be noted that the average growth rate of money conforms very clearly to the business cycle. Such conformity does not hold for bank credit over the postwar half-cycles. This blurring occurred particularly in periods when the ceiling rate on time deposits was increased. These periods exhibit rela￾tively large contributions to the growth rate of bank credit emanating from the time deposit substitution mechanism. A regression analysis (Table II) of the reduced form equations derived from the Gramley-Chase model confirms the central role of the monetary base in the money supply process. Estimates of the regres￾sion coefficient relating money to income are highly unstable among different sample periods, relative to the coefficient relating money to the monetary base. Furthermore, estimates of regression coefficients re￾lating money to income occur in some periods with TABLE II: Regressions of the Money Supply On the Monetary Base and Gross National Product* Moneta ry Base Gross National Product First Log First First Log First Differences Differences Differences Differences 2.03 .77 .04 .11 9.80) (10.02) (3.12) (3.39) .92 .93 .62 .65 ‘The monetary base was odiusted for res erye requirement changes and shift, in deposits. All data are quarterly averages of neasonally adiusted figures. The tirst entry in a column for each cycle is the regression coefficient. I-statistics are it pareetheses. and partial correlation coefficients are below the t-stottstics. signs which contradict the proposition of Gramley￾Chase and Cacy, or exhibit a very small statistical significance. These diverse patterns of coefficients do not occur for the estimates of coefficieilts relating money and the monetary base. It is also noteworthy that the average growth rate of the monetary base (adjusted for changes in reserve requirement ratios), over the upswings, exceeds without exception the average growth rate of adjacent downswings. This observation is not compatible with the contention made by Gramley-Chase that policy is countercyclical. Additional information is supplied by Table III, which presents some results of a spectral analysis bearing on the monetary base and its sources. Spectral analysis is a statistical procedure for decomposing a tune series into seasonal, cyclical, and trend movements. After such an analysis was conducted on the monetary base and its sources, a form of correla￾tion analysis was run between movements in the monetary base and movements in its various sources. Money 905 .048 .143 Bank Credit .333 .381 —-333 Regression Coefficients For: Cycle lV/48 to lI/S 3 11/53 to Ill/S 7 111/57 to 11/60 11/60 to Ill/os 1 .75 1.89) .44 4-59 (11.76) .97 2.76 7.56) .87 .63 1.96) .45 1.66 (11.81) .97 1.08 8.54) .89 .02 (1.02) .26 .06 (5.10) .86 —.01 (‘.33) -.08 .07 (1.23) .30 .19 (5.34) .67 -.03 (.27) Page 17