Former chief economist at the IMF, Kenneth Rogoff, advised central banks that they need to learn to love inflation. According to Rogoff, it is too soon for the Federal Reserve to end quantitative easing. Higher inflation would help to accelerate desperately needed adjustment in Europe's commercial banks, where many loans remain on the book at far above market value.
By Michael Kling
Monday, 10 Jun 2013 07:49 AM
Instead of dreading inflation, central banks need to learn to love it, advises Kenneth Rogoff, former chief economist at the IMF, in an article for Project Syndicate.
Rather than preparing to take away the punch bowl, central banks should be spiking it, argues Rogoff, a Harvard University economics professor who co-authored the book, "This Time is Different: Eight Centuries of Financial Folly."
The Federal Reserve may soon end quantitative easing (QE) to "take away the punch bowl before the party gets going" and head off inflation before reaching its employment target.
"The trouble is that this is no ordinary recession, and a lot people have not had any punch yet, let alone too much," he explains.
Despite legitimate concerns about QE distorting asset prices, bubbles are not the main threat, Rogoff maintains. "And it would be a catastrophe if the recovery were derailed by excessive devotion to anti-inflation shibboleths, much as some central banks were excessively devoted to the gold standard during the 1920s and 1930s."
The Bank of Japan (BoJ) began its own version of QE, seeking a 2 percent annual inflation rate. But the central bank seemed to pause when longer-term interest rates crept up. Rogoff wonders what the BoJ was expecting.
"If the BoJ were to succeed in raising inflation expectations, long-term interest rates would necessarily have to reflect a correspondingly higher inflation premium. As long as nominal interest rates are rising because of inflation expectations, the increase is part of the solution, not part of the problem."
As for Europe, the European Central Bank has been cautious about monetary easing because it has already been using its balance sheet to decrease borrowing costs for peripheral eurozone countries.
"But higher inflation," he notes, "would help to accelerate desperately needed adjustment in Europe’s commercial banks, where many loans remain on the books at far above market value. It would also provide a backdrop against which wages in Germany could rise without necessarily having to fall in the periphery."
Central banks can offer reasonable arguments for caution, and they are right to urge balancing budgets over the long term, Rogoff concedes.
"But, unfortunately, we are nowhere near the point at which policymakers should be getting cold feet about inflation risks. They should be spiking the punch bowl more, not taking it away."
Inflation is too low almost everywhere in the world, notes The Washington Post, reporting that inflation is below central banks' 2 percent target in almost all major countries. Falling commodity prices were the major reason for super low inflation, but even the U.S. consumer price index was up just 1.7 percent when excluding food and energy.
Low inflation, The Post adds, discredits warnings that QE programs would spark massive inflation.
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