Wednesday, March 25, 2015

An NGDP Target Rule is the Right Commonality

On March 30th, the Cato Institute will host an event to discuss possibilities for a Fed monetary policy rule. Scott Sumner - one of three speakers - will of course be advocating for a level nominal target. From the invitation:
The Federal Reserve Accountability and Transparency (FRAT) Act, introduced in the 113th Congress would have required the Federal Reserve to adopt a monetary policy rule. A new version of that bill will almost certainly be introduced in the 114th Congress. Could an unchanging monetary policy rule actually improve upon discretionary monetary policy? Many economists believe so, and several have proposed specific rules that each claims would foster greater economic stability than the Fed's current procedures.
As readers well know, I have "kept my fingers crossed" for the acceptance of NGDP level targeting. Those who have followed Scott Sumner's arguments, know that a nominal target is certainly not central planning on the part of the Fed. Rather, it is an acknowledgement of the kind of commonality that matters most: what any given society commits to economically and monetarily, at a given moment in time.

Acknowledging those commitments is not the same thing, as discretionary targets which could arbitrarily change marketplace conditions - as sometimes occurs with inflation targeting. Not only is it important to maintain aggregate spending capacity in an immediate sense, maintaining a steady level is also key to the stabilization process.

Part of the problem for any rule adoption, presently, is that central bankers are influenced by uncertainty in Washington as to long term growth potential. Are governments willing to commit to the stabilization of income aggregates, for instance? Or will they remain insistent on parking income in tightly specified asset formations, instead of supporting broader labor force participation?

Too many central bankers are caught at the "knife's edge", exhibiting firefighter responses to what sometimes appears as jobless growth. Inflation targeting was in part a response to the uncertainty of maintaining income aggregates. Even though inflation targeting has proven quite inadequate, it provided temporary cover for a changing set of labor force participation realities which have yet to be addressed. One reason that labor force participation has suffered, has been the imposition of a sticky market equilibrium for all income levels. Unlike the good commonality of a nominal target, the imposition of narrowly defined parameters for all participants is a negative commonality. Imposed by both governments and special interests, sticky markets remain a real threat to long term growth.

All too often, the harsh bust cycles of oversized financial sectors are simply the result of earlier damage, which slowly builds up from harsh consumption and production requirements. Those requirements result in mass failures, which often should not have to be necessary. Why are people willing to knock one another down - time and again - with depressions and harsh recessions, instead of allowing room for true economic diversity? As it is, the requirements of a sticky marketplace scarcely leave any room at all, for the stability of incremental growth.

The danger now is that central bankers will continue to use inflation targeting as a means to slowly "let the air" out of aggregate wealth potential and labor force participation. Don't let them do it! With a little luck, we can convince them not to continue down a desolate road where little hope can be found. Key to all this is restoring faith in the capacity of time value, as the central component of the economy it actually represents.

How, then, to think about potential growth levels? Much depends on what happens in the supply side sector in the years ahead. Will services become defined in more inclusive terms, for instance? Will knowledge use become more widespread? A decade may pass, before definitive answers appear certain for a stronger - possibly upgraded - growth trajectory.

Hence those who advocate for a nominal targeting rule, can hardly be expected to hold similar opinions as to growth levels. Much divergence is opinion as to presently existing market conditions. Plus, as Scott Sumner noted (in comments) recently, decisions re growth rate would be a group consensus. Even though it's good to have a commonality of viewpoints for an appropriate growth target, that commonality would be a benefit, instead of the necessity that aggregate spending capacity might represent for monetary stability.

Not only would the nominal target rule become the shared commonality that matters most, it provides the greatest clarity for how to think about the future of both monetary activity and the economy as a whole. Even though a nominal target is subservient (i.e. responds) to actual economic growth, whether or not it is adopted could still affect the long term growth trajectory. How so? Central bankers would not be able to continue using discretion either way (expansionary or contractionary) in favor of credit based goals.

What are the chances for an NGDP level target to be adopted in the near future? It's hard to say. But one thing is for certain: once this happens, it will be like a breath of fresh air. Everyone will finally be able to concentrate on the kinds of supply side reforms which mean real economic growth, for all concerned. Hey, it doesn't hurt to dream a little. Here's hoping that this week's Cato event goes well.

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