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Exercise Based Pedagogy to transition to Today's Implementation of Monetary Policy in Macroeconomics Principles

James Self () and Kim Huynh ()

CAEPR Working Papers from Center for Applied Economics and Policy Research, Department of Economics, Indiana University Bloomington

Abstract: The process by which most Central Banks target nominal interest rates and implement monetary policy has changed considerably in the last 20 years. Today, the use of interest payments on reserves and the decoupling of rate targets (e.g., the Fed Funds Rate) from reserve targets now play a crucial role in Central Banks policy decisions. However, in introductory macroeconomics textbooks, monetary policy implementation focuses on the relation of reserves in the system to the deposit multiplier and money stock, which leads to a discussion of interest rate targeting resulting from effective adjustments to the money supply. The main problem with that focus is that the target rate is not dependent on the money multiplier or strict control of the money stock. Instead, the current policy uses interest payments on reserves to create a floor that sets the target rate. This process leaves the system's reserves mostly independent of the targeting process. As a result, the current pedagogy leaves students unaware of the actual process used to target rates and an unrealistic interpretation of money multipliers' importance. We survey commonly used introductory macroeconomic books to highlight current pedagogy. Moreover, we show how it can be changed to reflect a Central Bank’s current practice to implement monetary policy. We also provide key learning objectives to transform outdated monetary policy implementation pedagogy consistent with existing Federal Reserve Bank practices.

Keywords: monetary policy implementation; excess reserves; pedagogy (search for similar items in EconPapers)
Pages: 20 pages
Date: 2022-05
New Economics Papers: this item is included in nep-ban, nep-mac and nep-mon
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Persistent link: https://EconPapers.repec.org/RePEc:inu:caeprp:2022009

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