The “big guns” come out against NGDP Targeting

I certainly consider Charles Goodhart a “big gun.” There is, for example, “Goodhart´s Law,” according to which: Any observed statistical regularity will tend to collapse once pressure is placed upon it for control purposes. And has been generalized to: When a measure becomes a target, it ceases to be a good measure.

It sounds like a variant of the “Lucas critique”, which says that optimal decision rules of economic agents vary systematically with changes in policy.

Scott Sumner and David Beckworth, among others, will certainly “shoot back with high caliber guns.” I intend to quarrel with one point made by Goodhart et al:

The second problem is that an NGDP target would appear to run counter to the previously accepted tenets of monetary theory. Perhaps the main claim of monetary economics, as persistently argued by Friedman, and the main reason for having an independent Central Bank, is that over the medium and longer term monetary forces influence only monetary variables. Other real (e.g. supply-side) factors determine growth; the long-run Phillips curve is vertical. Do those advocating a nominal GDP target now deny that? Do they really believe that faster inflation now will generate a faster, sustainable, medium- and longer-term growth rate?

It “would appear”, but in fact doesn´t. Market Monetarists, the major proponents of NGDP-LT, have Milton close to their hearts and know very well that over time “monetary forces influence only nominal variables”. What people often forget is that “bad” monetary policy does not only cause inflation, but can also cause “depression.” Just like the inflation of the late 1960s and 1970s was the child of overly lax monetary policy, the Great Depression of the 1930s and the Lesser Depression of today are the child of overly tight monetary policy.

In both occasions NGDP took a tumble. In one case it dropped from Mount Everest, in the other from the lower Rockies. The charts illustrate (again):



What about inflation (Headline CPI)?



When NGDP tumbles inflation becomes deflation in the 1930s but remains “low” in this age of “inflation targeting”. In the 1930s an “inflation target” did not constrain monetary policy explicitly. In any case FDR had to “intervene” and get the needed rise in prices. Today, the “inflation target” meme is a major monetary policy constraint.

What about the inflationary 1970s? Inflation came about when NGDP went “overboard” and took off after 1965.



What about the heyday of the Great Moderation? NGDP “clings” to trend and inflation comes down and remains quiescent. It appears monetary policy was “just right”.



Market Monetarists know that in the short run monetary policy can cause a lot of harm, be it of the “high inflation” kind or of the “depressive” kind. We now know that inflation targeting doesn´t solve the overall nominal stability problem. Just price (low inflation) stability is not enough. And the best available measure of overall nominal stability – a province of monetary policy – is nominal spending stability, or NGDP level targeting.

HT Bill Woolsey

3 thoughts on “The “big guns” come out against NGDP Targeting

  1. Nice post, and the UK data is even worse of course!

    The bizarre faith in CPI measurement these macro guys have is touchingly naive. I’m sure they should talk to some statisticians.

  2. I could be missing something here, but wouldn’t that argument also apply to measures of inflation as a target, or any other “thing”? Obviously the central banks needs something to use as a guide, some measure to be sure they aren’t going too far one way or the other; and so it seems a bit of an absurd argument to make, unless one favors the decentralization of money and markets balance supply/demand for money on their own.

  3. Pingback: Charles Goodhart on Nominal GDP Targeting « Uneasy Money

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

This site uses Akismet to reduce spam. Learn how your comment data is processed.