Last week, the central banks of the world’s two largest economies were in focus for their announcements about the form and pace with which they plan to take their foot off the monetary accelerator. More attention should have been paid to the failure of both the Federal Reserve and the European Central Bank to achieve their inflation target.

For most of this decade, both central banks have presided over price growth well below their target of 2 per cent, despite recovering growth and falling unemployment. A fair judgment is that for too long, they were too timid in fuelling aggregate demand, and that they should have been even more aggressive.

In light of this protracted failure, it is not surprising to see a lively debate about whether the monetary policy regime currently in force in most rich economies should be reformed. Brookings recently held a high-powered conference over this question, and while focused on the Fed, the arguments apply elsewhere.

David Wessel has a nice summary of the issues at stake and a useful list of the main alternatives under discussion. They are: lifting the inflation target from its current 2 per cent a year; targeting a range for inflation rather than a specific rate; targeting the price level rather than inflation (the rate of change of prices rather than their level); applying an inflation target as an average over a longer period (which is a hybrid between inflation and price level targeting); and targeting the price of the total volume of economic activity, also known as nominal GDP/national income targeting. Wessel cites important proponents of each alternative as well as the main arguments for and against.

Lawrence Summers’s contribution is characteristically interesting, taking in the history of how inflation targeting at 2 per cent came into being, and showing how changed economic conditions and a better understanding of economic downturns show the logic that led to its original adoption is less convincing today. In particular, he worries that the very low level of neutral real interest rates, coupled with what he believes is the impossibility of taking short-term rates (significantly) below zero, means that the current regime leaves central banks ill-equipped to handle the next recession (and this at a time when strained public finances in many countries make fiscal stimulus difficult.) For his preferred monetary policy regime, he plumps for a target of making nominal GDP grow at 5 to 6 per cent per year.

He is not the only one giving arguments for nominal income targeting. St Louis Fed president James Bullard has this year been presenting a paper on “optimal monetary policy for the masses”, also advocating nominal GDP targeting. As David Beckworth explains in his useful blog post on the paper, the reasoning involves the need to insure both debtors and creditors against the risk of unexpected price movements that affect the real value of their contracts, which in the real world are typically written in fixed nominal terms.

By accelerating inflation in a downturn, and reining it in during a boom, such a monetary regime would protect debtors when the economic activity — the basis for debt service — is unexpectedly weak, and share windfalls with creditors when it is unexpectedly strong. It would, in effect, mimic more equity-like contracts.

The effect can be significant. The failure of the ECB to keep prices growing at 2 per cent after the crisis meant that by 2016, debt balances entered into more than a few years earlier were about 5 per cent larger in real terms than lenders and borrowers had expected if they had trusted the central bank’s promise on price stability.

The arguments for national income targeting are strong. But they only go so far. After all, part of the problem since the crisis is not just that central banks targeted the inflation rate, but that they did not even hit that target.

If they were unwilling to deploy more aggressive monetary stimulus to do the job they had, what reason do we have to believe they would be more willing if the job were different? Until this changes, a new monetary policy objective may be necessary for better performance, but it is not sufficient.

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