A verdict on NGDP

Simon Wren-Lewis has been discussing some of the ideas about NGDP targeting, and has reached his (tentative) conclusion:

My proposal is therefore the adoption of a target path for the level of NGDP that monetary policy can use as a guide to efficiently achieving either the dual mandate, or the inflation target if we are stuck with that. NGDP would not replace the ultimate objectives of monetary policy, and policymakers would not be obliged to try and hit that reference path come what may, but this path for NGDP would become their starting point for judging policy, and if policy did not move in the way indicated by that path they would have to explain why.

His proposal and his logic for getting there are things I all agree with.  Note for New Zealanders – we still have a positive cash rate and a flexible inflation target, so we wouldn’t need to adopt it as an intermediate target right now.  But it is a good issue to think about in case we ever get there 😉

13 replies
  1. raf
    raf says:

    Interesting to see this shift. Goody! Now I would like to see the different ways of achieving an inflation and NGDP target.

    • Matt Nolan
      Matt Nolan says:

      Shift? The idea is that, when we hit the ZLB we can use price level targeting to credibly commit to policy that pulls us out of that – and NGDP targeting is really a rule based version of flexible price level targeting 😉

      Eg, Svensson has recently quit the Bank of Sweden because he just couldn’t convince people about these issues – and he was talking about credible commitment at the ZLB prior to the crisis:


      I’d also note that Mankiw was suggesting nominal wage growth targeting, and back in the day even Hayek suggested NGDP targeting. These are all pretty standard views in the discipline. Part of the reason Sumner started writing at http://www.themoneyillusion.com/ is because he was so confused that commentary was completely ignoring the way economists actually view monetary policy 😛

      There would only be a shift if we were able to convince policy makers to communicate these sorts of targets (which is what Woodford has been trying to do). Hence why I conclude saying we need to have these tools more clearly in our mind in NZ in case we hit the ZLB.

      • Panserborne
        Panserborne says:

        Why not adopt level-targeting now if we all accept that it will work better against the ZLB than growth-rate targeting? If bad things happen in the future, and the central bank fails to stabilize aggregate demand for a period, isn’t it important to already have in place a robust system that will fix these past mistakes? I imagine that justifying/communicating level-targeting as a one-off, short-term solution may not be easy.

        • Matt Nolan
          Matt Nolan says:

          This is definitely a reasonable case – we need to honestly compare the costs and benefits associated with it though, given that we previously avoided level targeting due to the fact we felt it had higher welfare costs!

          I believe I’ve said in the past I’m in the flexible inflation targeting camp, but if the weight of evidence shifts I’d be happy to move. Down the end of this post I have the three areas I see a “difference”:


          And if our view on the social costs and benefits regarding those elements changes, then switching could well make sense.

  2. Blair
    Blair says:

    I think Wren-Lewis hits the nail on the head when he says that while in theory inflation targeting is pretty good, practical implementation has been beyond woeful. The human cost of unemployment has been horrendous in the US, Europe and the UK. Economists seem to have been spared the threat of unemployment, perversely, but I am sure that if this ceased to be the case you would suddenly see a lot more concern about this issue and less piffle about the threat to financial stability caused by QE. But for this reason alone I actually favour introducing LNGDP path guidance now rather than waiting for a ZLB event.

    A few other things worth noting:
    – Many, though not all, of the problems of inflation targeting stemmed from very poor economic forecasts about the prospective rate of recovery. NGDPLT by itself doesn’t fix this. Generally bond markets seem to be better forecasters than economists.
    – Wren-Lewis states that NGDPLT is not “optimal” but then defines optimality in terms of inflation! We need to have a debate about what the underlying “thing” is. Scott Sumner thinks NGDP is the “thing” and he has a point for two reasons. Firstly, in a modern economy with lots of debt, variations in NGDP have a high cost (because people pay their debts with NGDP). Wren-Lewis actually refers to some research on this. Second, as an investor, the cost line (usually CPI linked) in your assumption is very important but the revenue line is even more important! Given that investment is usually the most volatile part of a market economy, it’s good to encourage and stabilise investment. Personally, I still wonder if the real “thing” is unemployment, as maybe the underlying point of monetary policy is to reduce unnecessary misery.
    – Several proponents of NGDPLT have said it might not be appropriate in a small open economy, or one dependent on a single commodity, because e.g. what if a terms of trade shift caused the bank to target negative RGDP growth. I am amazed that more work has not been done on this important question.

    • Matt Nolan
      Matt Nolan says:

      “Economists seem to have been spared the threat of unemployment,
      perversely, but I am sure that if this ceased to be the case you would
      suddenly see a lot more concern about this issue and less piffle about
      the threat to financial stability caused by QE”

      Although I should potentially take that personally, I actually agree with it pretty strongly 😉

      “A few other things worth noting:”

      All points I agree with. Small open economies experience more “shifts to potential output/supply shocks”, making level targeting a bit more problematic.

      I’d also note that inflation and the price level are seen as the issue of debate, as they are what the central bank can “control” in the medium to long term – and our medium-long term goal is to provide certainty about “general prices” given this. “NGDP” targeting is essentially “flexible price level targeting” in many ways. If it is done right, then in the short-term they are responsible for demand driven unemployment – and as you say, there has been a massive failure, and focus on side issues, in many places. This is indeed frustrating.

      However, we also need to be clear that we aren’t really “managing the path of the economy” – sometimes these factors can be taken a bit too far.

      • Blair
        Blair says:

        One thing I’ve always wondered about is whether there could be a link between inflation targeting and the rise of income inequality post 1980. Pre-GFC, I seem to remember a lot of CB market guidance would spend a lot of time discussing wage growth. The implication being that if unit labour costs surprised on the upside, CBs would hit the brakes on the economy, but if they fell, then they would relax. I have no idea whether this was a feature of the DGSE models or something else.

        The question arises whether this could somehow interfere with normal fluctuations in the share of income going to capital and labour. For example, maybe there’s something magical about periods of very low unemployment coupled with strong aggregate demand that helps to counterbalance some of the negative characteristics associated with capitalism. Mechanisms that could be in play here include an incentive for employers to invest in training and technology, because more labour is not available, or an increase in the participation rate having positive effects on the marginal product of the least qualified workers.

        I realise that if taken too far this sort of thinking ends in the wage-price spirals of the 1970s, but I still think it’s interesting.

        • Matt Nolan
          Matt Nolan says:

          You think that inflation aids in the wage bargain? Hey it isn’t necessarily out of the question – during the lead up to the German hyperinflation workers had a “temporarily” good time. But as a structural matter I can’t really buy it.

          Why income inequality rose is a fascinating question, I’m extremely keep to do some proper work on it in the NZ context. No doubt, I’ll start writing a lot more about that sort of thing at some point in the next few months 😉

        • Luc Hansen
          Luc Hansen says:

          I’ve been spending (too much!) time thinking on this as well, lately. My tentative conclusion is, to paraphrase Muhammed Ali, I ain’t got no quarrel with them inflations!

          From a personal perspective, at an important time in my life, a burst or two of inflation shrank my mortgage in relation to my income and greatly increased my equity, which was then available to lever into business opportunities, all in quite a short time frame.

          So what price stability does is remove from the realm of the great unwashed (those who owe) the opportunity to score windfall gains from those to whom we owe. Inevitably, in the long run, wealth becomes even more concentrated in the hands of the few as a direct result. It’s a one way bet, mainly for those born into privilege (which statistics seem to show is the overwhelming wealth-generating strategy employed by that fortunate group of people).

          Also, long term graphs show inflation already on a downward trend before inflation targeting was a gleam in Roger Douglas’ eyes, so how much academic work has been done on how much of the pain inflicted in the name a 2% or thereabouts inflation target was unnecessary?

          And the wage-price spiral of the 1970s (fondly remembered by yours truly) is yesterday’s war. More relevant is when there is no definitive consensus on the level at which inflation definitely decreases total welfare (I could be toast on this,) trying to eliminate inflation/deflation cycles occurring over centuries time scales seems a little King Canutish.

          Anyway, I’ll keep an eye out for your future work on this, Matt, as something to look forward to!

          • Matt Nolan
            Matt Nolan says:

            I think the key bit here is differentiating between unanticipated and anticipated inflation – when I finally write about inflation tax (which is a bit further away now my income tax article has gone from one to three) I’ll chat about this.

            I find the tax, and really the GE framework for redistribution, a useful lens for looking at all “broad” policies, Forces us to define the margin of any trade-off – and then try to measure it!

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