An intrinsic feature of the fiat standard is the lack of an objective anchor for money supply and the resulting difficulty of preserving price stability. This feature, recognized in the past but only recently formalized by economic theory, was hidden during the Bretton Woods period by the multilateral exchange rate peg, which provided de facto a monetary anchor for both policymakers and the private sector in most countries of the world. The collapse of the Bretton Woods system brought to the fore the trade-off between monetary instrument flexibility and anti-inflationary credibility that would characterize the monetary policy debate in the following years.
This paper is the story of the search for a better trade-off between flexibility and credibility undertaken by authorities around the world in the last 25 years. It provides detailed information on how monetary frameworks - that is the set of announced rules and institutions affecting monetary policy - evolved in 100 countries, examining the forces that molded such evolution and focusing on how developments in economic theory affected the choices of policy-makers.
The paper argues that the last quarter of a century has been characterized by a marked trend towards greater discretion in the setting of monetary policy instruments. The increase in discretion, underscored by the gradual but steady abandonment of exchange rate pegs, has, however, been accompanied by the introduction of credibility-enhancing arrangements constraining the final goals of monetary policy. These arrangements include increased central bank independence within a mandate to pursue price stability, inflation targeting, and IMF-supported programs featuring conditionality. The paper also comments on the role played by intermediate monetary targets, arguing that in most cases they amounted to little more than rule-flavored, but fundamentally discretion-based approaches to monetary policy, and on the few, but relevant cases of low-inflation reputational equilibria based on performance rather than rules. Finally, the paper discusses the future role of exchange rate pegs in light of increased capital mobility.
