The Economist Signs Up
Via Lars and Marcus, another high-profile endorsement for a switch to targeting nominal GDP, this time from The Economist [edit: fixed link]. I won’t repeat those quotes again here. Ryan Avent adds more background [edit: fixed link] in a Free Exchange blog post:
In Britain, there have indeed been misses [of a hypothetical nominal GDP level target], as the chart at right shows. As of the third quarter of 2012 nominal output was nearly £300 billion (or 18% of NGDP) short of the trend level immediately pre-crisis. Even assuming that policy immediately prior to the crisis was too loose and that the crisis delivered a structural reduction in Britain’s growth potential, the economy remains well below where it might reasonably have been expected to be at this point, in terms of the cash spent and earned in the economy.
That shortfall reflects the contribution of weak demand to Britain’s economic troubles. The Bank of England has laboured to fix the shortfall through a variety of policy measures, including quantitative easing and a “funding for lending” scheme designed to reduce bank-funding costs. But it is constrained in two key ways. First, its policy interest rate is close to zero. And second, it is operating under a 2% inflation target. At the zero lower bound, central banks can continue to stimulate the economy by raising expectations of future inflation, which reduces the real interest rate and boosts output. But the Bank of England has faced pressure, internal and external, to pay heed to its 2% inflation target. That, in turn, limits the credibility of its stimulus efforts.
(I don’t wish to spoil the party but the way The Economist phrase it, “just get NGDP 10% higher” is not ideal; it looks a bit arbitrary. Lets target policy along a steady growth path of NGDP, please!)