Christopher Joye rebukes John Quiggin for this post where he violates the territory of these guys. Quiggin criticises Central Bank Independence (in its strong from from the 1990s) and raises the possibility of higher inflation target to get more desired outcomes. Although from context I’m fairly sure Quiggin is speaking in context of the ECB and BoE 1 (where outcomes are far less optimal than here) Joye takes this as a call to interfere with RBA independence by changing the Australian target.
Incongruously he then says “we” (I presume elected government) should consider intervene by lowering the target instead. “Independence” seems to be a synonym for hawkishness rather than autonomy.
I come to this because I’m interested in the way inflation targets by reserve banks are discussed because it seems to me to have suffered from ossification of a make do policy into dogma.
A little history as I understand it. The technocratic monetarist dream of targeting the aggregate money supply and achieving 0% inflation proved impractical. Aggregate supply proved too endogenous and velocity too volatile. But monetarist understanding of inflation dynamics, the augmented Phillips curve and wage-price spirals etc. still seemed valid enough. Fortunately those spirals had ceased with the assistance of nasty recessions (and a lower oil price) but it was understood that a spiral could happen again were inflation to reach too high again.
This is the climate from which inflation targeting comes from. We haven’t the technocratic power to control the price level directly, so we’ll settle for making sure inflation doesn’t get so high it has its own inertia. We’ll target a rate, but there’s nothing special or technocratic about the rate chosen. It’s merely lower than the hypothetical and unknown level which would cause a breakout 2. The RBA has an upper target of 3%, which is higher than the 2% of the BoE, but Joye is also concerned that the actual growth in CPI has tended towards the upper bound and over in the past ten years.
Something I notice in the preceeding ten years is the lack of an inflation spiral. Despite regular adventures north of 3% there’s been no new inertia or self propulsion. Certainly nothing like what we saw in decades past.
So strict adherence to the 2-3% interval hasn’t been achieved, but the broader point of not returning to the 70s and 80s has been achieved so far. Whatever the hypothetical threshold that would see another spiral is, it seems to be higher than 3, or maybe 4%. There’s no real need for us to explore where that threshold is in the Australian experience given there’s no masses of clearly cyclically unemployed here, and from context I’m fairly certain Quiggin isn’t talking about Australia.
But the UK form instance is a different matter. There’s ample room to explore out from the arbitrary target rate (which is lower than the RBAs) before coming close to the hypothetical threshold, and it’s more pressing given the human misery on which adherence to the target would require.
Unfortunately the fact that the choice of target is arbitrary is neglected. On top of this is the notion that adherence to the target is necessary for Central Bank Credibility. This is tied to a fairly interesting implicit notion; an inflationary spiral won’t come as expectations get built into prices in contracts and decisions and bond yields across the entire economy as workers and employers etc. assess their own experience – it will instead come because commentators and pundits and Very Serious People are dismayed that the arbitrary target has been missed and thus their faith, and that of the public which partakes of their wisdom, will be destroyed and the currency debased.
Not surprisingly this notion, which emphasizes the crucial role of commentators and VSPs is very popular…amongst commentators and VSPs. But it seems rather separated from the understanding of inflationary dynamics that led to targeting in the first place. The technocratic veneer is mistaken for necessity.
2 And in the Australian example at least we add a lower bound rather than a cap, seemingly in acknowledgement that disinflation/deflation can also spiral and that mild positive inflation can help in adjusting real prices when nominal prices are sticky.
- edit – see JQ in comments