Three years ago I did a post suggesting that we stop using the term ‘inflation,’ as it just causes confusion. People wonder how higher inflation could help us. ”How are Americans better off if we have to pay $4.50 for gas?” The problem is that there is both AS and AD driven inflation, and most people instinctively think of the supply-side inflation, which reduces the real incomes of Americans, not the demand side inflation (that Paul Krugman and I want) which raises the real income of Americans (when there is slack in the economy.)
So I prefer to talk about NGDP as my nominal/AD indicator. Indeed if I had my way I would ban the term “aggregate demand,” and just talk about nominal and real shocks. What we call the “AD curve” would be a rectangular hyperbola relabeled the “nominal spending curve” or NS curve. This isn’t just more understandable, it’s also more accurate. Krugman and I don’t want more inflation, we want more NGDP, and for any given increase in NGDP that the Fed or ECB is able to engineer, we’d actually prefer to see more real growth and less inflation.
Maybe I’m reading too much into this, but it seems to me that Paul Krugman is accepting the logic of my “ban inflation” argument, at least as a pedagogical device. (BTW, I don’t claim that Krugman now views his inflation-centered models as theoretically unsound, just confusing to average readers.) See what you think:
I’ve been writing for a long time about how the euro area needs more inflation. But I suspect that many readers don’t quite see how this ties into the macro story.
. . .
So, imagine a currency area with just two countries, Spain and Germany, which I’m going to represent in an aggregate supply-aggregate demand framework.
On demand, I’ll make two assumptions I don’t believe. The first is that the ECB can determine nominal GDP for the euro area. Under liquidity-trap conditions, this is a very problematic assumption, and I don’t mean to drop my skepticism for other purposes. For right now, however, it’s useful, I think, to use nominal GDP as a proxy for the whole range of possible expansionary policies the ECB might follow.
By assuming that the ECB chooses nominal GDP, we get an aggregate demand curve for the euro area as a whole: Py = Y, where P is the price level, y is real GDP, and Y is the target nominal GDP.
At least we’ve nudged him to start talking in terms of models he “doesn’t believe.” Now if only we can get him to believe those models.
HT: Mark Sadowski, who provides some other comments that are quite persuasive.