Friedman's K-percent Rule - Rules Vs. Discretion in Monetary Policies

Rules Vs. Discretion in Monetary Policies

Many economists have argued whether using Rules in framing monetary policies is better than the discretion of the policy maker and vice versa. The rules vs. discretion debate was the mainstream argument of monetary policy framing in the 1960s to the 1980s and there is still no single opinion on what is better. However, some economists like John B. Taylor are inclined towards using rules rather than discretion. Taylor said, "You do not prevent bailouts by giving the government more power to intervene in a discretionary manner. You prevent bailouts by requiring adequate capital based on simple, enforceable rules and by making it possible for failing firms to go through bankruptcy without causing disruption to the financial system and the economy," indicating a clear preference over rules rather than discretion in monetary policies.

Economists and policy makers strive to formulate monetary policies using Rules but allowing scope for discretion so as to adjust the policies appropriate to the current economic situation so as to make these policies more effective.

The Friedman's k-percent rule, however, does not allow any interference from central banks in framing the monetary policy, as Friedman believed that discretion would be counterproductive and could lead to increased levels of inflation instead of controlling it. The K-percent rule does not allow any discretion in framing of monetary policies and believes in strict adherence to the proposed rule. This has caused many economists to criticise Freidmans k-percent rule.