Concept

Discretionary policy

In macroeconomics, discretionary policy is an economic policy based on the ad hoc judgment of policymakers as opposed to policy set by predetermined rules. For instance, a central banker could make decisions on interest rates on a case-by-case basis instead of allowing a set rule, such as Friedman's k-percent rule, an inflation target following the Taylor rule, or a nominal income target to determine interest rates or the money supply. In practice, most policy actions are discretionary in nature. "Discretionary policy" can refer to decision making in both monetary policy and fiscal policy. The opposite is a commitment policy. Monetarist economists in particular have been opponents of the use of discretionary policy. According to Milton Friedman, the dynamics of change associated with the passage of time presents a timing problem for public policy. The reason this poses a problem is because a long and variable time lag exists between: the need for action and the recognition of that need; the recognition of a problem and the design and implementation of a policy response; and the implementation of the policy and the effect of the policy. It is because of these lags that Friedman argues that discretionary public policy will often be destabilizing. For this reason, he argued the case for general rules rather than discretionary policy. Friedman formalized his argument in the context of monetary policy as follows. The quantity equation says that where M is the money supply, V is the velocity of money, and Y is nominal GDP. Expressing this in growth rates gives where m, v, and y are the growth rates of the money supply, velocity and nominal GDP respectively. Suppose that the policymaker wishes for the variance of nominal GDP to be as low as possible—that is, it defines a stabilizing approach to monetary policy as one which decreases nominal GDP variance. From the last equation we have where refers to the standard deviation (square root of the variance) of the subscripted variable and refers to the correlation coefficient between the subscripted variables.

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Stabilization policy
In macroeconomics, a stabilization policy is a package or set of measures introduced to stabilize a financial system or economy. The term can refer to policies in two distinct sets of circumstances: business cycle stabilization or credit cycle stabilization. In either case, it is a form of discretionary policy. “Stabilization” can refer to correcting the normal behavior of the business cycle, thus enhancing economic stability.
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In macroeconomics, Friedman's k-percent rule (named for Milton Friedman) is the monetarist proposal that the money supply should be increased by the central bank by a constant percentage rate every year, irrespective of business cycles. According to Milton Friedman "The stock of money [should be] increased at a fixed rate year-in and year-out without any variation in the rate of increase to meet cyclical needs." (Friedman 1960) Giving governments any flexibility in setting money growth will lead to inflation according to Friedman.
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