Stephen Williamson On NGDP Level Targeting

Over at TheMoneyIllusion, I did a post discussing Steve Ambler’s presentation on NGDP targeting, and Nick Rowe’s subsequent discussion. Now I’d like to address some concerns expressed by Stephen Williamson.

One concern is that NGDPLT (or average inflation targeting) might be rather complicated to communicate. I believe that’s true of average inflation targeting, but not NGDPLT. Williamson mentioned that each year there would be a different NGDP target growth rate, depending on whether current NGDP was above or below the target path. But I believe it’s a mistake to think in terms of growth rates when evaluating a level targeting regime.

Consider the analogy of exchange rates under the Bretton Woods regime. The British pound was targeted at $2.80, plus or minus 1%. In my view, that’s a very simple and easy to understand system. But if you consider the exchange rate in terms of growth rates, it might seem very complicated. Thus if the current exchange rate is $2.82, (i.e. slightly overvalued) then the Bank of England might be said to “target a negative growth rate of the exchange rate” until the pound returns to $2.80. The opposite would be true if the exchange rate were currently $2.78. And how long would it take to return the exchange rate to the target?

I favor a system where the Fed targets 12-month forward NGDP at exactly the rate implied by a predetermined target path, growing at 4% per year. The focus should not be on current NGDP, or the expected growth rate over the next 12 months, rather the focus should always be on the expected level of NGDP in 12 months. And that expected value should always be equal to the target value. In other words, monetary policymakers should “target the forecast”. Over time, I believe that people would begin to think in level terms, just as with they did with exchange rates under Bretton Woods.

If 12 months is too short (arguably true in the special case of Covid-19) then use a 24-month forward target. But even with inflation targeting there will be special cases, as with severe supply shocks.

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