John Taylor on Rules, Discretion, and First Principles

Go-Stop Policy

The 1970s witnessed the Federal Reserve's discretionary "go-stop" policy, which led to economic instability and stagflation. John Taylor explains that this approach involved stimulating money growth to reduce unemployment, only to later curb inflation by tightening monetary policy, resulting in frequent recessions 1. This cycle of inflation and unemployment challenged the Keynesian model, which assumed a negative relationship between the two. Taylor highlights Milton Friedman's 1968 address, which argued against the effectiveness of higher inflation for sustained unemployment reduction 1.

It was a go-stop policy. The Fed would try to reduce unemployment by stimulating money growth. Other ways to measure it you could look at interest rate rules, and interest rate rules were way off in terms of what was a sensible policy, too low, if you like.

--- John Taylor

By the early 1980s, the consequences of this policy were evident, with double-digit inflation, unemployment, and interest rates, alongside slowing productivity growth 1.

   

Presidential Influence

Presidential influence on monetary policy during the 1960s and 70s significantly impacted economic outcomes. John Taylor notes that President Johnson's administration favored discretionary monetary expansion to finance the Vietnam War, leading to rising inflation 2. This approach was supported by the 1962 Economic Report of the President, which advocated for discretionary policy despite Milton Friedman's contrasting views in "Capitalism and Freedom." Taylor reflects on Friedman's perseverance in promoting market-oriented ideas, which eventually gained traction despite initial resistance.

Martin was very eager to keep President Johnson happy and liberalize the monetary expansion at Johnson's request in trying to finance the war in Vietnam rather than raising taxes.

--- Russ Roberts

The tension between political influence and economic principles highlights the challenges of maintaining monetary independence 2.

   

Interventions Debate

The debate over temporary economic interventions in the 1970s, such as wage and price controls, reveals their controversial nature and limited effectiveness. John Taylor discusses how these measures, including Nixon's wage and price freeze, were politically motivated and often failed to produce lasting benefits 3. Despite academic critiques, such as those by Tom Sargent and Bob Lucas, these interventions persisted, reflecting a disconnect between economic research and policy decisions 4.

Nixon imposed probably the most obviously awful policy change for years around that time, which was the example of wage and price controls.

--- Russ Roberts

Taylor emphasizes the need for a broader understanding of economic history to inform policy beyond theoretical models 4.