Knowledge that Transforms

Any paper on U.S. monetary reform must consider reform of the Federal Reserve System. This paper considers reforms of the Federal Reserve that should enhance the quality of monetary policy. Two kinds of reforms are considered: 1) changes in the internal institutional structure of the Federal Reserve that should enhance the quality of its monetary policy decisions; 2) changes in the powers of the Federal Reserve to impose reserve requirements that should enhance the efficacy of the policies themselves.

Jerome Stein (1961, 1964) published a porttolio selection model of individual discretionary hedger decision making in a futures trading context, and used this model as a basis for his theory of the simultaneous determination of spot and futures prices. While this model has several limitations (see for example the author and Basil Yamey), it is the purpose of this note to show that it does not have the deficiency attributed to it by Richard H. Snape, who argued that Stein's neglected substitution effect, when accounted for, gives rise to the possibility of an unstable storage market equilibrium. Stein's model determines the proportion of stock to be hedged for a risk-averse individual whose assumed aim is maximization of expected utility. The expected return equations are

Any test of the monetary approach centered on the period of fixed exchange rates would now be predominantly of historical interest. At the time of this study, however, experience with flexible exchangc rates was still too short to permit concentr.ating econometric analysis exclusively on this more recent system. Caught in this net, we have attempted an analysis of official reserves and the foreign exchange rate in lIr;unce covering both fixed and flexible exchange rates, that is, thirty-nine quarters of tixed rates, 1962.11971.3, and thirteen quartcrs of flexible rates, 1971.4-1974.4. cost is the presence of errors in our simultaneous equation estimates of the exchange rate during the period of fixed rates. But the benefit is an econometric analysis founded on fifty-two observations, and yet covering three years of flexible rates. Since the errors in the estimates of the exchange rate under fixed rates are quite moderate, the cost would seem to be worth the benefit. most important characteristic of our work is the use of a detailed structural model of bank credit and money in testing the monetary approach. early tests of this approach simplified the structure of the monetary to the utmost and considered the domestic source component of the reserve base (or the total base minus official foreign reserves) and the money multiplier as exogenous.' But there is really no logical basis for these restrictive assumptions. monetary approach states that the demand and supply of money in a small country together determine 1) money, and 2) official reserves or the foreign exchange rate or the attainable combinations of the two, depending upon fixed, floating, or managed exchange rates. Nothing but a correct specification of the conditions for monetary equilibrium can provide a basis for testing this proposition. We also deviate from the tendency in the literature on the monetary approach to suppose that any convenient measure of money will do. Based on this attitude, there have been many tests of the monetary approach using simply the reserve base as the measure of money, even though this aggregate, consisting of currency plus an arbitrary fraction of deposits, is inappropriate in analyzing the monetary behavior of firms and households.2 In justifying this measure in a well-known econometric work, Pentti Kouri and Michael Porter nmerely say: The essential features of the model [would not be] substantially changed by incorporating a more complete banking system (p. 448). But not only does this fail to meet the criticism, it also neglects the fact that the monetary approach can give rise to conflicting estimates of changes in official reserves and the exchange rate depending on the money measure.3 There is no way of assessing the seriousness of this last objection without testing. In this work we shall examine the extent to which varying and tenable money measures in France yield convergent results. In spite of these deviations from the literature, we may be said to adhere to a strict

In this note the possibility is demonstrated that a movement between a broadly based income tax and a consumption tax in a two-period consumption loan model can be completely accommodated by interest rate changes which leave real intertemporal consumption plans unchanged. Income and consumption taxes are both broadly based taxes, the former taxing all potential consumption in any period and the latter actual consumption. Lenders and borrowers face the same prices under both tax regimes and movements between the two can, in this simple model, be wholly accommodated by interest rate changes leaving intertemporal consumption plans unaffected. This result contrasts with the conventional argument in favor of a consumption tax in preference to an income tax on the basis of lack of distortion of savings behavior. It is not suggested that because of this result exact monetary accommodation to consumption income tax variations will occur in all circumstances, but it seems to be of interest to note that such adjustments are possible and these appear not to have been previously considered. The traditional argument for the distorting effects of an income tax over a consumption tax is often made in a simple two-period intertemporal consumption choice model. If an individual receives income Y,, YK in each of two periods and if the interest rate is r, then, so the argument goes, the slope of an individual's budget constraint between current and future consumption (C, and C2) is not disturbed by a consumption tax, whereas it is under an income tax. If interest is both taxable as a receipt and deductible as an expense under the income tax, and the marginal tax rate t is assumed to apply under both the income and consumption tax,' the slopes of the consumer budget constraint under the three alternative regimes are