Don't Raise Inflation Target, Economists Say

By Michael S. Derby 

        A new paper from the National Bureau of Economic Research says allowing inflation to run hotter than levels currently deemed acceptable would take a notable bite out of the economy.
        Economists Guido Ascari and Eric Sims warn in research published Monday against boosting central bank inflation targets. The Federal Reserve and Bank of England each have a goal of 2% a year. The European Central Bank aims for inflation just under 2%. All three have seen inflation run well below these levels for a while.
        Some economists have called for revisiting these targets and perhaps raising them in hopes of spurring stronger economic growth and hiring. The idea even has some buy-in from current central bank officials.
        Allowing more inflation also would give the Fed more room to cut real interest rates, which are the nominal rates minus inflation, should the economy stumble, proponents say.
        Some supporters of the idea also say central bankers should be willing to let inflation exceed their targets for as long as inflation has been running under target.
        The paper' authors counter that targeting inflation to run in the 4% range would induce a lot of distortions into the wage-setting process that would hurt economic performance. Expectations of higher inflation would drive households to seek bigger raises as protection against the future. Meanwhile, those whose wages are set by contract would find the inflexibility of their situation leading to reduced spending power in real terms.
        Investment would also suffer, the authors say. "Moderate trend inflation can have strong distorting effects conditioned on shocks to the marginal efficiency of investment," the authors write.
        Write to Michael S. Derby at michael.derby@wsj.com
        (END) Dow Jones Newswires

        July 27, 2015 16:23 ET (20:23 GMT)

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