Economist Josh Hendrickson of the University of Mississippi suggests in a new National Review Online column that politicians’ apparent confusion about the impact of Federal Reserve monetary policies stems at least in part from the way in which the Fed conducts its business.

Hendrickson urges that the Fed use a rule for monetary policy.

Under a monetary rule, the Federal Reserve would be required to target a particular variable, such as inflation or nominal income. With the Federal Reserve targeting a particular variable, it becomes possible to judge the stance of monetary policy as well as the credibility of the Federal Reserve and its commitment to the target. While the indicator variables mentioned above could still be used by market participants and commentators to forecast the Fed’s target, the stance of monetary policy could easily be judged by looking at the deviation of the particular variable from its target. For example, if the Fed announced a target for inflation between 1.5 and 2.5 percent, it could be discerned that monetary policy was too loose when the inflation rate was above that range and too tight when below that range. The Fed would then be responsible in its testimony to Congress to explain why any such deviations occurred.

While the use of a monetary rule is important, it is equally important to choose the correct target. Most central banks in developing countries have adopted inflation targets. This is largely due to the long-run relationship between money and inflation. However, an alternative is targeting nominal income, which has several advantages over targeting inflation.

What follows is a description of a “monetarist” approach to economic policy. Regular readers of this forum might recognize that this approach is different from an Austrian school perspective, which raises serious doubts about the Fed’s ability ever to do a better job than the free market in guiding economic policy.