Monetary Policies and the Economy: The Transmission Mechanism

Abstract

My subject is the process by which monetary policies are transmitted into changes in expenditures for Gross National Product. My account will be selective, and far from complete. I will concentrate on certain links between financial variables and demands for goods and services. I will say relatively little about the other part of the story, how the various instruments at the disposal of the central bank affect the financial variables. I don't have time to do both, and the proximate mechanisms of monetary control seem to me to be less important and less controversial. As to controversy, it will be clear to you that I am presenting an account of the transmission process which is an alternative to monetarism. But I have, for the most part, resisted the temptation to point out the differences of view, preferring to let you the listeners infer them from my exposition of my own theories. It will suffice to remark at the outset that I clearly do not subscribe to the prevalent view that what the central bank does is to control the money supply, which in turn determines money income and prices. I would say instead that the central bank controls some short-term money-market interest rates and/or reserve aggregates and that these variables simultaneously affect other interest rates and financial quantities, GNP expenditures, and monetary aggregates. Much of what I shall argue is not new but old-fashioned. I refer particularly to the attention I shall give in the second and third parts of the paper to credit, as distinct from money, i.e., to the asset, as well as the liability, accounts of commercial banks and other intermediaries. The first section concerns the link between asset valuations and capital spending. The second

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