Working Paper: NBER ID: w31915
Authors: Michael D. Bordo; Edward S. Prescott
Abstract: We evaluate the decentralized structure of the Federal Reserve System as a mechanism for generating and processing new ideas on monetary policy over the 1960 - 2000 period. We document the introduction of monetarism, rational expectations, credibility, transparency, and other monetary policy ideas by Reserve Banks into the Federal Reserve System. We argue that the Reserve Banks were willing to support and develop new ideas due to internal reforms to the FOMC that Chairman William McChesney Martin implemented in the 1950s and the increased ties with academia that developed in this period. Furthermore, the Reserve Banks were able to succeed at this because of their private-public governance structure. We illustrate this with a time-consistency model in which a decentralized organization is better at producing new ideas than a centralized one. We argue that this role of the Reserve Banks is an important benefit of the Federal Reserve’s decentralized structure by allowing for more competition in formulating ideas and by reducing groupthink.
Keywords: Federal Reserve; Monetary Policy; Decentralization; Innovation; Economics
JEL Codes: B0; E5; G2; H1
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Internal reforms to the FOMC (E52) | Increased innovative capacity of Reserve Banks (E58) |
| Decentralized structure of the Federal Reserve (E58) | More effective production of monetary policy ideas (E61) |
| Decentralized structure of the Federal Reserve (E58) | Competition in idea formulation (O36) |
| Competition in idea formulation (O36) | Reduced groupthink (C92) |
| Increased innovative capacity of Reserve Banks (E58) | Better long-term monetary policy outcomes (E61) |
| Internal reforms to the FOMC (E52) | More productive environment for idea generation (O36) |