P248 inflation targeting(2)

Nominal-GDP targets, without losing the inflation anchorA nominal-GDP target would ensure either that real growth accelerates or, if not, thatthe real interest rate declines automatically, working to push up demand. The targets fornominal-GDP growth could be chosen in a way that puts the level of nominal GDP onan accelerated path back to its pre-recession trend. In the long run, when nominal-GDPgrowth is back on its annual path of 4-4.5%, real growth will return to its potential, say2-2.5%, with inflation back at 1.5-2%.Under this plan, the long-term target for inflation remains unchanged. Fans offlexible inflation targeting should thus remain happy (e.g. Svensson 2009). The plansimply substitutes a nominal-GDP target at one- or two-year horizons for the (morecomplicated) Taylor rule.Some central bankers fear that under current conditions they cannot reliably deliverany quantitative target at a one- or two- year horizon, whether consumer price indexor nominal GDP. A variant of the proposal would use forward guidance, followingthe recent lead of the Federal Reserve. Central banks could announce a commitmentto keep the policy interest rate – or quantitative easing or other available tools – oneasy settings so long as the nominal GDP remains below a particular level, chosen tocorrespond to the estimated path of potential GDP.Phasing in nominal-GDP targeting delivers the advantage of some stimulus now, whenit is needed, while respecting central bankers’ reluctance to abandon their cherishedinflation target.ReferencesBean, Charles (1983), “Targeting Nominal Income: An Appraisal”, The EconomicJournal, 93, 806-819.Frankel, Jeffrey (1995), “The Stabilizing Properties of a Nominal GNP Rule”, Journalof Money, Credit and Banking, 27(2), May, 318-334.93