Inflation Targeting: Lessons from the International Experience

"The authors of this book start from the Friedman and Schwartz book, and there are a lot of references to it in the early chapters. They argue that what is lacking in the Friedman and Schwartz book are expectations. They ask why we’re trying to stabilize the price level. The answer is that we want to stabilize prices because we realise that there is a trade-off between the output and the price level. However, it is very difficult for the central bank to understand how to stabilize the price level. The main motive of the book is to make the case for inflation targeting. In the book, the authors argue the target shouldn’t be a strict rule. It should be more like a framework in which the central bank operates in order to stabilize inflation. It’s not important to stabilize inflation to some narrow target—2%, trying to ensure it doesn’t reach 2.1%, or whatever. What is important is to avoid big episodes of inflation, because this could be very disruptive for the economy. “Why is inflation increasing now? There are different theories” They provide a lot of examples from different countries. Interestingly, this book was written just before the US adopted an inflation-targeting regime. They talk first about Germany and Switzerland, who had never adopted inflation targeting at the time but were very cautious in managing inflation. Then they look at New Zealand, the first country to adopt inflation targeting. Then they analyse several other countries that adopted inflation targeting. Finally, they wonder whether countries should apply the inflation targeting rule, whether it’s something important, and they argue that we should, but more as a framework rather than as a strict rule. And, when Bernanke was running the Fed, he ensured there was this flexibility, with no strict target."