Nominal GDP dismissed as viable policy target in Central Banking debate

Former Bank of England officials argue against adopting a nominal GDP target for monetary policy; economist Gabriel Stein brands it ‘absolute madness’

Panellists in the latest online debate, aired on March 21, comprehensively rejected the suggestion that central banks should adopt a nominal GDP policy target.

Mark Carney, the Bank of Canada governor, speaking in December, suggested that central banks should consider switching from an inflation target to a nominal GDP level target when interest rates are at the zero lower bound. He explained that it would prove more credible, should the central bank need to maintain a highly accommodative monetary stance beyond the point when the economy, and inflation, picks up.

Gabriel Stein, managing director of Stein Brothers (UK), a macroeconomic forecasting consultancy, however, said there were "very few pros" but "lots of cons" to a nominal GDP target – either on a GDP growth or level basis.

"GDP is a vague and flawed measure, published in arrears and substantially revised. How can you conduct monetary policy on this basis? It's absolute madness," Stein said.

Carney put forward the idea of targeting an nominal GDP level, as opposed to a growth rate, which would require the central bank to steer the economy along a particular growth path, and ensure it returned to the path should, for any length of time, growth drop off.

Tim Young, a former Bank of England (BoE) foreign exchange reserves portfolio manager, raised the issue of how the central bank would decide which path to follow. Proponents of an nominal GDP level target want to return to the pre-crisis path, he explained, but this would require really aggressive action to make up for the "enormous shortfall" of the past five years.

For a monetary policy target to be valuable, said John Gieve, a former deputy governor of the Bank of England, it must be credible "in the sense that it's got to be something you actually want to hit". In the case of using a nominal GDP target, he said the central bank doesn't actually want to hit the target – rather, it wants to achieve sustainable growth and stable inflation.

The debate then turned to whether different policy objectives – price and economic stability – could be incorporated in a single policy target, or whether there should be separate targets for each.

Gieve noted that the BoE has struggled to explain some of its recent behaviour purely with reference to its inflation target. He said the central bank's pursuit of sustainable growth was the "elephant in the room", and acknowledged the case for making it more explicit by adopting a dual mandate.

Stein said the Federal Reserve, which operates with a dual mandate, has been the most "inflation friendly" of the major central banks, and warned that the more targets a central bank has, the more people expect its monetary policy to achieve.

Young went one step further, branding the Fed's dual mandate "a mess", and agreed that all the real economic variables a central bank has to consider should be brought into a single monetary target.

Gieve was the most sympathetic panellist about countries' motives for considering new monetary policy frameworks. "During the 10 years of the great stability, inflation-targeting regimes seemed to deliver low and stable inflation, but also stable growth and employment; it seemed an economist's nirvana," he said.

"The crisis exposed that inflation-targeting was not good at stabilising the real economy, and that something else needed to be done."

In contrast, Young said the question had arisen simply because "a lot of countries are finding it harder to meet their inflation targets", while Stein argued they are simply "looking for a quick fix".

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