Thursday, May 22, 2008


"Inflation is rising just about everywhere. Why is this and what can be done about it? To get some basic concepts clear: inflation is a sustained rise in the general price level. ... In a fiat money world, central banks cause inflation, or, more precisely, only central banks are responsible for inflation. Other shocks, real and nominal, can influence the general price level if the central bank does not respond swiftly and determinedly, but these non-central bank induced changes in the general price level can always be offset by the central bank, given enough time, freedom to act and courage. But, in the medium and long term (at horizons of two years and over, say--central banks choose the average rate of inflation. Not globalization; not indirect taxes; not bad harvests; not OPEC and the price of oil; not the Chinese and their exchange rate management. There is no oil inflation, food inflation or cost-push inflation. There is only inflation. Inflation may be accompanied by changes in key relative prices--in the real prices of oil, of and labor for instance. ... Sometimes the central bank is the political captive of the fiscal authority. ... But with an operationally independent, sufficiently well capitalized central bank, the monetary authorities can, on average in the medium and long term, achieve the inflation rate they want. They are responsible, no-one else. ... The die-hard core inflationists there will point out that core inflation is only 2.4%, but the only appropriate answer to that is: so what? Core inflation is of interest only to the extent that it is a superior predictor of headline inflation. ... The oil price shocks of 1973/74 and 1979/80 did not cause inflation. ... Without central bank accomodation and expansionary fiscal policy to try to uindo the negative effects of the oil price shock on non-oil production and employment, there would at most have been a one-off increase in the general price level", William Buiter (WB) at, 14 May 2008.

Thanks Yves Smith for leading me to this article. I agree with WB. I remember the 1973-74 oil shock. At Chicago we debated the significance of the Fed's "accomodating" an increase in relative prices. I take issue with one thin WB wrote, "an operationally independent ... central bank". Ain't no such animal. Fuggedaboudid.

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