Raghuram Rajan, Governor of the Reserve Bank of India, is calling for a reform of the international monetary system. He has been calling attention to problems in the system for a while, and now he is looking for a solution. In his March 21 Project Syndicate article “New Rules for the Monetary Game,” he argues that “what we need are monetary rules that prevent a central bank’s domestic mandate from trumping a country’s international responsibility.” The details are laid out in a paper with his colleague, Prachi Mishra.
Raghu has a particular idea in mind. He suggests that the international community assign colors (green, red, and orange, like traffic lights) in this way: “policies with few adverse spillovers should be rated ‘green’…and policies that should be avoided at all times would be ‘red,’” and in-between policies would be ‘orange’. He then suggests that economists at central banks, at international financial institutions, and in academia get started with the classification based on economic models and data.
I have been writing about the merits of a proposal for “A Rules-Based Cooperatively Managed International Monetary System for the Future” for some time and with some recognition by Central Banking Publications; it’s already based on economic models and data. In fact, a lot of research and experience over the past several decades shows that rules-based monetary policies lead to better performance nationally and globally. So the proposal is pretty straightforward: An international agreement on a rules-based system would be built on clear descriptions and commitments to monetary policy rules in each country. So let’s color rules- based policies green, and discretionary policies red (with Raghu’s orange for monetary policies that are in the transition or normalization phase), and get on with implementing the proposal.