Saturday, May 19, 2012

Inflation Targeting Shifted Fed Focus to Constraining Aggregate Demand

The main difference between the two “doctrines” is not the change in the Fed´s responsiveness to inflation as argued by Taylor, Bernanke or Farmer, but the changed responsiveness to aggregate demand or nominal income growth. A collateral effect of the change in “doctrine” shows up in the reduction and stabilization of inflation and decreased volatility in real output.
Read it at Historinhas
A last ditch defense of Inflation Targeting
By Marcus Nunes

There has been a lot of discussion across the blogosphere recently on the benefits and consequences of inflation targeting as Fed "doctrine." Two of the counterpoints are shown here in Inflation Targeting Not Dead After All and Simon Wren-Lewis on Monetary Policy - "the status quo is not looking too good right now." Nunes expands on the debate by analyzing the change in "doctrine" under Volcker's Fed from a focus on aggregate supply to aggregate demand.

Since altering its focus to aggregate demand, the Fed has successfully constrained inflation by limiting wage growth. Around the same time the government began running consistently larger budget deficits (apart from the few Clinton years). This combination of policies, which supports corporate revenues while limiting costs, may also help explain the rise in corporate profit margins and increasing share of those returns going to capital over labor. Further, the reduction in top tax rates created an incentive to take profits out of corporations rather than reinvest the funds in the business. The end result appears to be the widening income inequality recognized today.

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