The pointless debate over inflation
By Scott Sumner
In the past, I’ve frequently argued that inflation is an almost meaningless and useless concept. I’m not even aware of any coherent definitions of the concept. Unfortunately, the Fed has decided to target PCE inflation, and thus we are forced to pay attention to the issue, and even forecast its future path.
Here are two problems with the inflation debate:
1. If the claim is that high inflation is an indicator of excessive aggregate demand, then why not focus on NGDP? If the claim is that high inflation is hurting living standards, then why not focus on real GDP? Inflation can be affected by both supply and demand shocks.
If people say inflation is too high or two low, there’s usually some sort of public policy implication to their claim. It’s not merely like saying the weather is too hot. (Oops, even that has public policy implications these days.)
In general, those who claim inflation is too high have a preference for a tighter monetary policy, and vice versa. But fast NGDP growth is a much better indicator of whether the economy is overheating.
In my view, the Fed’s recent decision to adopt “flexible average inflation targeting” is a tacit admission that NGDP is a better target. They are going to let undershoot or overshoot 2% on occasion if it allows for a more stable path for NGDP.
2. People foolishly divide up into two camps, hawks and doves. In 2019 the doves said, “Inflation is too low; we need more monetary stimulus.” The hawks said, “Don’t look at inflation; other indicators suggest we don’t need monetary stimulus.”
In 2021, the hawks say, “Inflation is too high, we need tighter money.” The doves say, “Don’t look at inflation, other indicators suggest that we don’t need tighter money.”
Of course it’s always true that inflation is an unreliable policy indicator. But I get tired of seeing people divide up into hawks and doves, and only use the “inflation numbers are misleading” argument when it favors their policy preference.
Hawks and doves are both wrong. We don’t need easy money or tight money; we need stable money. That’s why I didn’t believe the low inflation of 2019 was a problem and it’s also why I don’t think the high inflation of 2021 is a problem. Inflation is not a reliable policy indicator.
You should immediately distrust any pundit who only discounts the importance of inflation when it’s below 2% (i.e. hawks) and you should also discount any pundit who only discounts the importance of inflation when it’s above 2% (i.e. doves.)
Over the past 100 years, bad outcomes have occurred when we adopted dovish policies, and also when we adopted hawkish policies. Good outcomes have occurred when we adopted stable monetary policies.