The Dow Jones Fiddles While Arthur Burns

.Eschaton:

I’ve not quite figured out if the Fed really only focuses on “core inflation” or if it’s just some concept that the press, reporting on the Fed, can’t get its arms around. The reason to focus on so-called “core inflation,” something which excludes trivial things like food and energy costs, month to month is that food and energy costs are volatile and tend to bounce around a bit. The core inflation number, which excludes this stuff, is thought to be less volatile and therefore a better measure of short term inflation.

Another reason the Fed may focus on “core inflation” is that it’s typically not very easy to for it to affect food and energy costs by tweaking the levers it has available. You have your low elasticity, you have your big international markets where US consumption isn’t necessarily a big part of the picture, you have your non-monetary (and sometimes nonfiscal) policies that point in other directions.

As a result, using the Fed’s available tools to deal with the noncore part of the inflation rate can muck up the economy bigtime. The stereotypical example, of course, is the oil shocks of the 70s, especially the first, where the Fed (apparently) treated increasing oil prices as a source of inflation that had to be fought by stomping on the economy rather than as an exogenous shock that would reduce economic output and thus, if anything, needed an expansionary counter.

I don’t know if stagflation or deflation is more embarassing for a central bank, but they both represent pretty bad policy failures.

Advertisements

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s


%d bloggers like this: