Monetary Policy is both "Science" and "Art"

2020/02/13

Monetary policy, which central banks operate with the goal of price stability, has aspects of both "science" and "art." From the former perspective, a scientific approach is emphasized, where monetary policy operations are planned and results are verified based on theoretical analysis using macroeconomic models and empirical analysis using data. On the other hand, from the latter perspective, the element of craftsmanship is considered important, where subtle signals are read from movements in the macroeconomy and financial markets to lead to more accurate policy decisions.

In the 1990s, dynamic stochastic general equilibrium models known as New Keynesian models developed, and a theoretical framework supporting inflation targeting, the standard monetary policy framework, was established. In this context, the aspect of monetary policy as a "science" became more strongly recognized.

However, amid the global financial crisis since 2008, the importance of craftsmanship-like "art" has increased once again. Many central banks in advanced economies faced the zero lower bound and adopted unconventional monetary policies that involved purchasing various financial assets and expanding the central bank's balance sheet, but the accumulation of theoretical and empirical research on unconventional monetary policy is not yet sufficient. In the previously widely used New Keynesian models, the stance of monetary policy was summarized by the policy interest rate, and the central bank's balance sheet, money, and credit volume did not appear. While expanding theoretical models is an urgent task, it is still a work in progress.

Monetary policy decisions are made in real-time using all information available at each point in time. To make such policy decisions more robust, it is important to refine the "science" of monetary policy by accumulating theoretical and empirical research, while also passing on the "art" of accurately applying academic knowledge within the transforming financial and economic environment.

In Japan, since the late 1990s, various unconventional monetary policies have been pioneered, ranging from the zero interest rate policy, which promised to maintain policy interest rates near zero for the future, to quantitative easing policies that increased the outstanding balance of central bank current accounts to a certain level, and the current quantitative and qualitative monetary easing. Leveraging my 32 years of experience as an economist at the Bank of Japan after graduating from the Faculty of Economics, I hope to conduct research and education that bridges the "science" and "art" of monetary policy.