The question has come up whether business cycles are more or less severe, and the economy more or less volitile, today than in the past. The most recent National Economic Trends from the St. Louis Fed provides evidence for a decline in volatility post 1962. Cited is a study by Stock and Watson (”Has the Business Cycle Changed and Why?” NBER Macroeconomic Annual 2002) which examines three different hypotheses relative to the perceived decline. They indicate that 20-30 percent could be explained by ‘improved monetary policy’ with most of the rest attributed to smaller shocks.
It may be true that post Volker monetary policy with a greater emphasis on control of inflation and price stability is an improvement on the monetary policy pre natural rate theory where the focus was more on employment, but as the recent boom-bust illustrates there is much room for improvement.
Hayek was premature in abandoning his earlier arguments about the harmful effects of money and credit growth in a growing economy for his more pragmatic approach in the 70s that “Though monetary policy must prevent wide fluctuations in the quantity of money or in the volume of the income stream, the effect on employment must not be its dominating consideration. The primary aim must again become the stability of the value of money” (Unemployment and Monetary Policy, Cato, 1979, p. 17).
ABCT clearly explains why instability will still be a significant problem in such a monetary policy environment and provides the foundations for monetary reform that would make the economy even less volatile.
