ECON-630 Monetary Theory and Policy

Prof. Martha Starr

American University

Fall 2011


Telephone:      (202) 885-3747

Office:              Kreeger Hall, Room 118

Office hours:    Mondays, 5:00-8pm; Wednesdays, 3-5pm

Class website:  AU Blackboard, ECON-630


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“[S]o much barbarism … still remains in the transactions of most civilized nations, that almost all independent countries choose to assert their nationality by having, to their own inconvenience and that of their neighbors, a peculiar currency of their own.”


 -- J.S. Mill, Principles of Political Economy, Vol. II (1894).

Monetary theory and policy

This class covers analysis of key issues in monetary theory and policy, including relationships between money, output and prices; hyperinflations; business cycles; inflation targeting; monetary unions; monetary policy in open- and emerging-market economies; and monetary policy in financial crises. The objective of the class is to provide a rigorous overview of these issues, with emphasis on recent scholarly work and policy debates.

Monetary Theory and Policy is one of the recommended classes for the monetary field for PhD students (the other being ECON-633 Financial Markets). The course should be accessible to students who have made reasonable progress in their core macroeconomics sequence. M.A. students should have completed ECON-501 and ECON-505. PhD students should have completed ECON-702 [Macro I]; completion of ECON-712 [Macro II] is advantageous but not necessary. Material in the class may overlap with ECON-702 and -712. Exposition will be mostly in terms of linear models and diagrams; models using calculus will be presented but in a self-contained way.


The textbook for the class is Carl Walsh’s Monetary Theory and Policy, 3rd edition (MIT Press, 2010). There are also many required articles posted in the “Course Documents” section of the class Blackboard site. This course is reading-intensive, although readings can be done selectively (i.e. identify the paper’s key argument, the way in which it is elaborated, and key steps of its theoretical or econometric development).

Graded work

The grade for this class will be determined as follows:  


Contribution to final grade (percent)

Due date

  VAR project


Sept. 28

  Take-home midterm


Oct. 5

 (class does not meet that night)

  Policy debates


Nov. 16

[note: no class on Nov. 9; use this time to prepare]

Research paper (15-20 pages, instructions distributed soon)


Dec. 7 – last day of class

  Take-home final exam


Dec. 19

  Class participation




VAR project

In the VAR project, you will be expected to run basic vector-autoregressive analyses using data on monetary-policy variables, output and prices for a country of your choice. The assignment requires you to use Eviews -– a software package that emphases time-series applications and is widely used for analysis of macroeconomic and financial data. There will be a detailed hand-out on running VARs in Eviews to help you get started.

Course Outline

[readings other than Walsh are posted in Blackboard]

1.    Introduction: Monetary-policy basics and background on contemporary issues (Aug. 31)

            Gourinchas – “U.S. Monetary Policy, ‘Imbalances’ and the Financial Crisis”

            Chapter 1 from Reinhart and Rogoff, “This time is different”

2.   Empirical evidence on money and output (Sept. 7)

Walsh -- Chapter 1 

Pedro Teles and Harald Uhlig, “Is quantity theory still alive?” NBER WP No. 16393 (Sept. 2010).

Excerpt from Enders on Granger causality & VARs


3.   Long-run models of money, inflation and growth (Sept. 14 & 21)

Walsh -- Chapters 2-4

Milton Friedman, "The Role of Monetary Policy," American Economic Review, March 1968.

Isaac Mbiti and David Weil, “Mobile banking and the impact of M-Pesa in Kenya,” NBER WP No. 17129 (June 2011).

Thomas Sargent, Noah Williams, and Tao Zha, “The conquest of South American inflation” (Dec. 2006).


4.   Monetary policy and the business cycle (Sept. 21 & 28)

Walsh –- Chapter 5 (pp. 195-209) and Chapter 6  


Adam Cagliarini, Tim Robinson, Allen Tran (2011). “Reconciling microeconomic and macroeconomic estimates of price stickiness,J. Macroeconomics, Vol. 33, No. 1 (March): 102-120.

Argia Sbordone et al., “Policy Analysis using DSGE Models: An Introduction,” New York Fed Economic Policy Review, Oct. 2010.


< Midterm – Oct. 5 >



5. Time inconsistency and contemporary monetary policy (Oct. 12 & Oct. 19)

Walsh Chap. 8, esp. Barro-Gordon model (pp. 365-378, 393-397) and central bank institutions (pp. 419-424).

Hand-out on the Fed, ECB, and Bank of England

Lars Svennson (2010). “Inflation targeting.” NBER Working Paper No. 16654. Chapter prepared for the Handbook of Monetary Economics, Vol. 3).

Scott Roger (2009). “Inflation targeting at 20: Achievements and challenges” (IMF WP/09/236).


Carlos J. Garcia, Jorge E. Restrepo, Scott Roger (2011). “Hybrid Inflation Targeting Regimes,”

International Journal of Money and Finance, forthcoming.


Joshua Aizenman, Michael Hutchison and Ilan Noy (2011). “Inflation Targeting and Real Exchange Rates in Emerging Markets,” World Development, Vol. 39, No. 5 (May): 712-724.

6.   International dimensions of monetary policy: Monetary union, currency competition (Oct. 19 & 26, possibly some of Nov. 2)

Robert Mundell (1961). “A Theory of Optimum Currency Areas,” American Economic Review (Nov.)

Alberto Alesina and Robert Barro (2002). “Currency Unions,” Quarterly Journal of Economics.

Issing, O. (2011) “The crisis of European Monetary Union – Lessons to be drawn,” Journal of Policy Modeling.

Campbell Leith, Simon Wren-Lewis (2011). “Discretionary policy in a monetary union with sovereign debt,” European Economic Review, Vol. 55, No. 1 (Jan.): 93-117.

Linda Goldberg (2010). “Is the international role of the dollar changing?” New York Fed Current Issues in Economics and Finance, Vol. 16, No. 1 (Jan.)

Thimann, Christian (2008). “Global role of currencies,” International Finance, 11(3): 211-245.

Wyplosz, Charles (2010). “Is the Era of the Dollar Over?” Journal of Globalization and Development, Vol. 1, No. 2.


7.   Financial frictions and monetary policy (Nov. 30 & Dec. 7)


(a)   Interpreting the Great Depression

David Wheelock, “Monetary Policy in the Great Depression: What the Fed Did, and Why,” Federal Reserve Bank of Kansas City Economic Review, Mar/Apr. 1992, pp. 3-28.


Bernanke, B. S. (1983), “Nonmonetary Effects of the Financial Crisis in the Propagation of the Great Depression,” American Economic Review, 73(3): 257-276



(b)  Unconventional monetary policy

Ben Bernanke, Vincent Reinhart, and Brian Sack (2004). “Monetary Policy Alternatives at the Zero Bound,” Brookings Papers on Economic Activity, Vol. 2.

Chung, Laforte, Reifschneider & Williams, “Estimating the Macroeconomic Effects of the Fed’s Asset Purchases,” Federal Reserve Bank of San Francisco Economic Letter (Jan. 2011)


(c)   Leverage


John Geanakoplos, “Solving the Present Crisis and Managing the Leverage Cycle,” Aug. 2010.


Pierre Gourinchas & Maurice Obstfeld, “Stories of the 20th Century for the 21st” (on predictors of financial crises in developed & emerging-market countries) 


Nicola Cetorelli and Linda Goldberg, “Global banks and international shock transmission: Evidence from the crisis,” IMF Economic Review, Vol. 59, No. 1, 2011.


Ji Wu, Alina Luca, and Bang Nam Jeon, “Foreign bank penetration and the lending channel in emerging economies: Evidence from bank-level panel data,” Journal of International Money and Finance, forthcoming.