Scott Sumner, Professor of Economics at Bentley University, proposes that the Fed target nominal growth in GDP (“NGDP”) rather than inflation as Ben Bernanke has long advocated:
“Even he [Bernanke] must be surprised and disappointed with how poorly [inflation targeting] worked during the recent crisis.”
The primary problem, Sumner points out, is that measures of inflation are highly subjective and often inaccurate.
“The problem seems to be that, according to the Bureau of Labor Statistics, housing prices did not fall. On the contrary, their data shows housing prices actually rising between mid-2008 and mid-2009, despite one of the greatest housing market crashes in history. And prices did not rise only in nominal terms; they rose in relative terms as well, that is, faster than the overall core CPI. If we take the longer view, the Bureau of Labor Statistics finds that house prices have risen about 8 percent over the past six years, whereas the famous Case-Shiller house price index shows them falling by nearly 35 percent. That is a serious discrepancy, especially given that housing is 39 percent of core CPI……..
There are errors in the measurement of both inflation and NGDP growth. But to an important extent, the NGDP is a more objectively measured concept. The revenue earned by a computer company (which is a part of NGDP) is a fairly objective concept, whereas the price increase over time in personal computers (which is a part of the CPI) is a highly subjective concept that involves judgments about quality differences in highly dissimilar products.”
Inflation targeting also encourages policymakers to think in terms of monetary policy affecting inflation and fiscal policy affecting real growth — “a perception that is both inaccurate and potentially counterproductive”.
“Advocates like Bernanke see [inflation targeting] as a tool for stabilizing aggregate demand and, hence, reducing the severity of the business cycle. This is understandable, as demand shocks tend to cause fluctuations in both inflation and output. So a policy that avoids them should also stabilize output. I have already discussed one problem with this view: The economy might get hit by supply shocks, as when oil prices soared during the 2008 recession……..”
Linking monetary policy (and the money supply) to nominal GDP growth would offer a far more stable growth path than the present system of inflation targeting.
Colin
I understand that GDP is the sum of money transactions as opposed to adding up widget factory sales. If i am correct then how do they sepperate simple price increases from increase money movement.
I have heard that 40% of US GDP is simply the movement of money within the finance industry.
GDP is the market value of all (officially measured) final goods and services produced. There is more than one way of calculating it:
Colin
So if there is more than one way to measure it ,and there is no way to separate price increase (inflation ) from economic growth, why is it touted is being the only way to measure or well being
The three measures should (roughly) match each other.