THE PRINCIPAL OBJECTIVE of this paper is to increase our understanding of the role of monetary policy in postwar U. S. business cycles. We take as our starting point two common findings in the recent monetary policy literature based on vector autoregressions (VARs). First, identified shocks to monetary policy explain relatively little of the overall variation in output (typically, less than 20 percent). Second, most of the observed movement in the instruments of monetary policy, such as the federal funds rate or nonborrowed reserves, is endogenous; that is, changes in Federal Reserve policy are largely explained by macroeconomic conditions, as one might expect, given the Fed's commitment to macroeconomic stabilization. These two findings obviously do not support the view that erratic and unpredictable fluctuations in Federal Reserve policies are a primary cause of postwar U.S. business cycles; but neither do they rule out the possibility that systematic and predictable monetary policies-the Fed's policy rule-affect the course of the economy in an important way. Put more positively, if one takes the VAR evidence on monetary policy seriously (as we do), then any case for an important role of monetary policy in the business cycle rests on the argument that the choice of the monetary policy rule (the "reaction function") has significant macroeconomic effects.