What Drives Monetary Policy?

This study is an attempt to understand how monetary policy is conducted
today, if and how it differs from the manner it was conducted in the
past, whether monetary authorities are faithful to the tenets of the
theories they say underlie their framework, and whether any lessons
have been learned at least since the onset of the Asian financial
crisis in July 1997.

The basic finding is that the framework being used by the monetary
authorities currently cannot be described as monetarist in the
tradition of Quantity Theory of Money. The results of the Granger tests
performed, albeit a crude form of empirical testing, tends to support
the hypothesis that what drives monetary policy in this country is
basically concerns over the exchange rate. It appears that the
authorities use monetary growth reactively, to set a floor on the rate
of peso depreciation directly, as a way to ultimately control the rate
of inflation.

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