Hoenig, Thomas

The second lesson that I would draw from our experience in combating inflation over the past 30 years is: you cannot rely on any single indicator to guide monetary policy. Just as portfolio diversification is the hallmark of a prudent investment strategy, central bankers need to look at a variety of indicators of economic activity and inflationary pressures..

Over the past three decades, we have seen a number of examples of once-reliable indicators whose performance has been affected by the changing structure of financial markets and the economy. One example is the monetary aggregates. Prior to the mid-1970s, the relationships between inflation and the two primary measures of money—MI and M2—were generally stable. The M1 relationship began to break down in the mid-1970s, and after several attempts to redefine M1 to fix the relationship, in 1987 the Federal Reserve de-emphasized MI in favor of M2. M2’s relationship with inflation lasted for a few more years, but eventually deteriorated also, leading us in 1993 to drop M2 as a formal indicator.

...in discussions of the monetary aggregates, I believe that the key issue is not whether excessive money growth causes inflation. Rather, the key issue is which measure of money is most useful in gauging inflationary pressures. Our experience in recent years confirms the difficulty of finding a single and consistently reliable measure of money in a rapidly changing financial and economic environment.