This edition of the Reserve Bank Bulletin is built around the theme of inflation. This theme is on the minds of many central banks around the world, including the Reserve Bank of New Zealand. We face the difficult challenge of reining in elevated inflation, against a background of high oil and food prices, slowing growth and ongoing global financial instability.
Our first article in this edition, by Governor Alan Bollard and me, discusses how the Reserve Bank's primary function of price stability can best be pursued in circumstances like the present, when forces on the economy push powerfully and persistently in one direction. We note that New Zealand's long-serving inflation-targeting framework has served the country well, and continues to do so. However, we also argue that it can only do so much to promote stability. Above all, there is a need to ensure that, when monetary policy operates flexibly to cope with these powerful forces, the medium-term objective of 1-3 percent inflation continues to anchor inflation expectations, which is what gives us scope to be flexible in the first place.
Our second article, by Satish Ranchhod, discusses how inflation developments overseas over the past decade or so have influenced inflation pressures in New Zealand. Our main trading partners enjoyed low inflation through to the early 2000s, but are now experiencing higher inflation across the board. This period of higher inflation worldwide is due to prolonged strengthening of global activity until very recently, itself partly reflecting ongoing Asian and emerging market growth. Strengthening global demand increased the pressure on productive resources, resulting in higher inflation in the prices of traded goods from all regions, as well as strong increases in the prices of commodities in international markets.
David Gillmore reviews in our third article the research on why inflation is costly, and why price stability is therefore important. Inflation tends to benefit the wealthy at the expense of the poor and those on fixed incomes, and reduces economic growth …