ISTANBUL – Central bankers want only a few things. To achieve any of them they usually seek to nudge inflation expectations, demonstrate the transparency of monetary policy, and establish their institutions’ credibility. To communicate their intentions simply and clearly, they may set an explicit target range in terms of a particular economic variable, or announce a forecast for the variable, or offer forward guidance by specifying a threshold value for it that must be met before changing interest rates.
But what should that one economic variable be? In the 1980s, major advanced countries tried the money supply. After the monetarist approach failed, some switched to targeting the inflation rate. But they repeatedly missed their targets.