What’s happened to the Wall Street Journal? They seem to be increasingly veering toward the Rick Perry school of monetary analysis. Here’s an example of an article that’s wrong about almost everything:
There are at least three problems with this [NGDP targeting] strategy, however. First, it assumes that the Fed can sensibly determine the “right” trend for nominal GDP. Second, it isn’t clear that it can actually achieve any such target. And third, doing so would run a huge risk of conflicting with the Fed’s congressional mandate to promote “stable prices”—something that can’t unilaterally be rewritten. This is because any boost to nominal GDP may well come more from higher inflation rather than from faster growth in underlying GDP, which Goldman acknowledges. After all, the economy’s real potential growth rate has been slowing for decades.
1. But doesn’t inflation targeting also assume you can determine the “right” level of inflation? And also determine the “right” inflation index (there are many, whereas there’s basically one NGDP.)
2. If they can’t achieve an NGDP target, then ipso facto they can’t achieve an inflation target.
3. There is no Fed mandate for “stable prices.” Indeed if the Fed thought that price stability was the mandate they’d be violating the law. The Fed mandate is stable prices and high employment. If you targeted stable prices, you’d be implicitly putting a weight of zero on employment. In contrast, NGDP targeting addresses both sides of the dual mandate.
I can’t imagine any reputable economist disagreeing with me on any of these three points, even if he or she hated NGDP targeting. The WSJ is simply flat out wrong.
First, it is tempting, but probably mistaken, to assume the Great Recession came along and knocked the U.S. off an otherwise sustainable growth track. It wasn’t an external shock, but internal weakness, that led to the economy’s collapse.
One worrying aspect of GDP growth prior to 2007 was that it came even as real household incomes stagnated. Assuming that boom-era growth rates were sustainable, and not fueled by a surge in house prices and a credit boom that simply pulled forward demand from the future, is a huge leap in logic.
Um, the target is NGDP, not RGDP.
Second, even if the Fed were to aim at a particular nominal GDP target, it isn’t clear policy makers could successfully hit it. Consider how recent gains in the consumer-price index, particularly in food and energy, have outstripped any increase in wages. This has hurt real income growth, undermined consumer confidence, and weakened, not strengthened, the economy.
For the Fed to generate inflation, it needs households to believe the central bank is fueling not just higher prices but wage gains, too, so that they start spending more. Otherwise, households will simply tighten the purse strings instead.
The whole point of monetary stimulus is that wages are sticky, and hence higher aggregate incomes would lead to more jobs, and more hours worked. “Whether households “tighten purse strings” has no bearing on whether NGDP targeting can work. Don’t you love it how the WSJ switches over to Keynesian economics, just after they’ve trashed the idea that the economy needs demand stimulus. Is there any model there?
In addition, the food and energy price increases are mostly supply-side phenomena. When the Fed generates inflation, real incomes rise (assuming there is economic slack.)
Moreover, the level of general inflation it would take to transform housing, the thorniest problem facing the economy, would be huge. Boosting home prices by the 15% to 25% that Barclays Capital reckons many households are underwater “would in all likelihood be prohibitively expensive in economic and social terms,” says the firm.
That underlines the third concern. Success in nominal GDP targeting would probably mean ignoring the Fed’s current mandate on price stability. If the central bank were to even consider such a dramatic shift, Congress may want its say on the matter.
We favor NGDP targeting precisely because we don’t favor targeting specific sectors like housing. The market should determine where the extra spending goes.
I’m tempted to say “The dual mandate; it’s not just a good idea, it’s the law.” The WSJ might not like the actual mandate, but wishing it wasn’t there won’t make it go away. Of course you don’t want the Fed to literally target two variables; that would create a mess. They should target NGDP. But they should do so because they care about economic losses created by inflation (actually NGDP growth) and unemployment. The Congress is telling them which problems to address; they let the Fed decide how to actually implement those vague policy goals. NGDP targeting is far more consistent with the dual mandate than inflation targeting.
Is that all they got? Then I’m even more confident about the merits of NGDP targeting. OK, back to grading.
PS. I don’t have time to comment on all the stuff that has come out recently, but here are some pieces worth reading:
1. Clark Johnson has an outstanding analysis of the Great Recession. (Although I’d quibble slightly with his discussion of exchange rates and policy coordination.)
2. Add Interfluidity to the list of NGDP targeting supporters.
3. And Bennett McCallum remains the most respected NGDP advocate in the entire world (even after a certain high profile conversion.)
HT: Marcus Nunes