Thoughts about Monetary and Fiscal Policy in a Postinflation World

By Rivlin, Alice M. | Business Economics, April 2015 | Go to article overview

Thoughts about Monetary and Fiscal Policy in a Postinflation World


Rivlin, Alice M., Business Economics


There is a cultural lag in economic policy, particularly when it comes to inflation. Should inflation continue to be a concern, or is the new "normal" one in which inflation is low on the list of threats? In particular, central banks should focus on their original mission of ensuring financial stability and recognize that monetary accommodation is likely to continue to be appropriate. Budget policy, too, must play a role in promoting economic health--but expenditures should be shifted toward investment that increases productivity rather than consumption. Also, the federal tax codes and entitlements should be restructured so that they promote rather than impede growth. Finally, it is important to guard against institutions and individuals that have enormous financial power using that power to gain short-run advantage for themselves at the expense of long-term stability and prosperity for all. Business Economics (2015) 50, 51-56. doi: 10.1057/be.2015.12

Keywords: inflation, new normal, financial stability, monetary policy, fiscal policy, regulation

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I am greatly honored to receive this award from the National Association for Business Economics. I have enjoyed NABE's lively gatherings and publications for many years, actually decades. I am particularly pleased and honored that this award bears the name of Paul Volcker. Paul is a wonderful friend and amazingly dedicated public servant. He keeps shaming us all by volunteering for difficult tasks that no one else can be persuaded to do and executing them with great distinction. I have admired and looked up to Paul--literally and figuratively--for many years and am delighted to have my name on any list headed by his.

I want to draw your attention today to what I perceive as a cultural lag in thinking about the objectives of economic policy. Why are we still so focused on fighting inflation? Why are so many people in this room devoting so much time and attention to guessing when the Federal Reserve will start raising short-term interest rates and get back to its "normal" job of protecting us from inflation? Is inflation an important threat to our economic wellbeing? Is when to raise interest rates the most urgent question facing the Fed at the moment? Or are we suffering from cultural lag?

Collecting linguistic evidence of cultural lags is a minor hobby of mine. I smile when I catch myself referring to the refrigerator as the "ice box," because that was what my mother called it, although she didn't actually own one. I am amused when young people tell me their phones are "ringing off the hook." Have they ever used a phone with a receiver on a hook? When bureaucrats say they are eager to break out of their silos, I wonder if they have ever lived on a farm or anywhere close to a silo. So, when politicians and financial journalists ask me earnestly, as they do, whether the Federal Reserve isn't risking devastating "run-away" inflation by buying all those bonds, I suspect cultural lag. What Inflation? We should be so lucky! Central banks have amply proved that they know how to stop inflation--Paul Volcker showed that. They have been much less successful in getting a little inflation going.

A lecture in honor of Paul Volcker is the perfect occasion for raising the fundamental question: are the major advanced economies (United States, Europe, Japan) facing a new normal for which current tools of monetary, fiscal, and regulatory policy need to be restructured? In the Volcker era of central banking, inflation was the principal threat to sustainable growth--and central bankers had to be brave enough to raise interest rates to tame the beast and steadfast in communicating their determination to do so. Paul Volcker demonstrated that he was a brave man.

But after Volcker slew the dragon over three decades ago, inflation gradually drifted down, and the beast has hardly wiggled its tail for a long time. The last time the core PCE hit 3. …

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