The idea that a central bank should seek to restrict those developments in the financial system that threaten the health of the economy strikes a strong resonance today. The difference between today’s interpretation and that advocated by Mills and his colleagues is a subtle, but important, one.
In the 1930s, banks dominated the financial system, and a framework of regulation on banks was seen as the best way to ensure financial stability (and to operate monetary policy). Today we realise that heavy regulation stifles competition and innovation, and is an ineffective mechanism for monetary policy – even though it can achieve a high degree of financial stability.