There is more to economic policy than bank regulation, which so often (like other regulation) amounts to closing the stable door after the horses have bolted. We must not forget the traditional aim of providing a framework for economic growth with low inflation. The main instrument for achieving this has been inflation targets pursued by semi-independent central banks by means of a very short-term official interest rate. As Robin Pringle, the editor of Central Banking, remarks in the latest issue of that journal: “The current dominant framework of monetary policy may not survive its association with the crisis, and perhaps does not deserve to.” There is every sign that many central banks want to cling leech-like to this failed framework. Yet I doubt if they will be able to avoid a rethink.
The old regime failed for many reasons. The most common criticism was that it focused on inflation to the neglect of growth. Moreover, it focused on only one type of inflation – consumer prices – to the neglect of asset prices. But above all it engendered a false sense of security. There is no magic formula that remedies all these defects. But I have long been in favour of a regime that would be a step improvement. That is to replace our regime of using monetary policy just to target inflation with an approach targeting the flow of spending in the economy, or nominal gross domestic product.
A big obstacle to its adoption is the hideous name it has been given by economic professionals. But it should not be a mystery to anyone who can live with the more familiar GDP. It is easy to overlook the manipulation that raw data go through to take inflation or deflation out of the estimate to get real GDP. All that nominal GDP means is income and expenditure at actual prices without this manipulation. It can be presented as demand management with an inflation lock, or as a money supply target adjusted for velocity.