The main question I wish to focus on in this chapter is: ‘How should we think about the monetary transmission mechanism in a live policy-making environment?’ I shall concentrate upon practical problems. There are essentially two sub-questions here. The first is ‘How should we define monetary policy?’ The second is ‘How should we model the economy?’ I shall offer a personal perspective on these two sub-questions, but one that is closely related to the Bank of England's current thinking about monetary policy transmission issues, represented by the book Economic Models at the Bank of England (1999b).

What do we mean, therefore, by monetary policy? This should be a phrase about which central bankers should be clear. Monetary policy in the UK context is what we can do to interest rates. Yet we know that monetary policy also concerns money. Inflation is a monetary phenomenon. Economists applying for positions at the Bank of England are often asked during their interview, ‘Is inflation possible in a barter economy?’ A correct answer to this question is closely correlated with our selection decision !

If inflation is a monetary phenomenon, what role is there for money? The policy process for setting interest rates is informed by the use of many models that appear to have little explicit role for money. Perhaps we should state that inflation is always and everywhere a monetary policy phenomenon. If we have an inflation target, it is tempting to say that inflation is an inflation target phenomenon.