Anyone know much about, or have any opinions on this? Instead of the central bank pursuing an inflation target, they instead target a particular growth rate of nominal GDP.
In addition to the benefits outlined in the article above, it avoids the problems of price indices. i.e. they don’t have to worry about measuring changes to the purchasing power of money.
There is also this article that suggests that Hayek was in favour of such a policy as a kind of next best thing to free banking: http://blog.mises.org/11591/white-on-hayek
Okay, I haven’t got much response on this topic but I think it’s an important idea that Austrians need to address. It seems to be an emerging paradigm. See this recent report (from the Adam Smith Institute):
Nothing can substitute free market in money production. No matter what kind of index you use for scientific calculation it is still violent monopoly that can’t economically calculate and so will never work in most efficient way possible (even putting usual disincentives of governments aside and moral side of forcing upon everyone your vision of how things should be).
If you want to manipulate an economy via government intervention then stats like GDP are indispensible. But then that doesn’t have anything to do with real economics, does it?
At least snake oil actually had some medical benefit, whereas all of these market manipulation games create only havoc.
It’s nominal income growth (ie. aggregate demand growth) that matters. Nominal GDP growth is one particular measure of that (another possible measures is final sales of domestic product growth) and it seems to be the most logical target choice if policymakers are interested in stabilizing real GDP growth. The reason why it matters is that individuals and businesses often make decisions on the basis of expected nominal income growth. For example, some firm might expect its revenue to increase by 5% per year over the course of the next 5 years and given that expectation, it may agree to 5 year contracts with its workers specifying that their wages increase by some fixed percentage each year or it may take out a 5 year loan at a fixed rate of interest. Suppose, however, that its revenue only grows by 1% per year over the next few year. The fixed contracts it agreed to now take up a larger share of the firms revenue, and as such, its other spending plans need to contract (for example, it may halt a plan for expansion). If the fall in revenue growth is large enough, the firm may even be forced into bankruptcy.
Now, this would not have anything more than a transient effect on real output if aggregate nominal income growth continued to grow a stable rate because this firm’s fall in revenue growth below expectations would be exactly offset by some firms (or individual incomes) seeing an increase in revenue growth above expectations. To the extent that the former firm contracted its operations, the other firms would expand theirs, and there is a healthy reallocation of resources in the economy, which is, of course, quite necessary for growth. Suppose instead, though, that aggregate nominal income growth fell below expectations. In that case, the average firm would see its fixed contracts take up a larger share of its revenue. In other words, unlike the previous example, other firms do not expand to the extent that our example firm contracted. All firms contract and so aggregate real output falls.
Note that this example relies on price stickiness (including wages and interest rates). It’s true that if prices were perfectly flexible, changes in nominal income growth would have no effect on real output (ignoring menu costs for the moment). However, in reality, prices are sticky. Government policies certainly exacerbate this, but the problem would nevertheless exist in the absence of any government so long as firms still made contracts on fixed nominal terms. It is certainly true that using some form of inflation or nominal income growth indexing in all contracts would go some way towards eliminating this problem, but the fact that all individuals and firms do not do this suggests (through demonstrated preference) that the costs of doing so outweigh the benefits. Given this, it seems to me that an optimal monetary policy must take into account price stickiness and, by implication, nominal income growth.
Of course, nominal income growth is not the only thing that matters. Inflation (and inflation expectations) is also important and there is an obvious tradeoff if aggregate supply growth is not constant (and in reality it never is): you can either stabilize nominal income growth or inflation, but not both. The optimal monetary policy must balance the two goals. I think that in the short run nominal income growth is more important, because if prices are not perfectly flexible, a change in aggregate demand growth would simply exacerbate the effects of an aggregate supply shock (either positive or negative) on real output, leading to greater instability. In the long run, prices are perfectly flexible, so this problem no longer arises, but there are still menu costs and malinvestment due to money illusion as a result of inflation, so the optimal monetary policy should aim minimize these. This graph is a good illustration of how much more responsive real output growth is to changes in nominal income growth as opposed to inflation:
I don’t think Austrians should be hostile to nominal income targeting either, because Austrian business cycle theory seems to imply that it is the “least worst” form of central banking (particularly if it is implemented by targeting actual market expectations, rather than simply being left to the discretion of the central bank itself). In Prices & Production, Hayek himself favoured a stable level of nominal income (ie. nominal income growth of 0%), or in other words “any change in the velocity of circulation would have to be compensated by a reciprocal change in the amount of money in circulation if money is to remain neutral toward prices” (p. 297 in Prices & Production and Other Works). A few years later in Monetary Nationalism and International Stability, Hayek seems to suggest that stable positive growth in nominal income could also stabilize real output: “Whether we think that the ideal would be a more or less constant volume of the monetary circulation, or whether we think that this volume should gradually increase at a fairly constant rate as productivity increases, the problem of how to prevent the credit structure in any country from running away in either direction remains the same.” (p. 421 in Prices & Production and Other Works).
In addition to the benefits outlined in the article above, it avoids the problems of price indices. i.e. they don’t have to worry about measuring changes to >>the purchasing power of money.
I tend to agree with the conventional Austrian view that attempting to measure general changes to purchasing power of money is inherently difficult and unrealiable. The best thing about NGDP targeting in my opinion is that it dispenses with this futile excercise. Why even try and target something that can’t really be targeted?
Indeed, to me it deals with at least some of the Austrian objections to managing the money supply but it retains another problem; that of the non-neutrality of money and the heterogeneous way in which new money enters the economy (with the disturbing effect that entails). If someone could solve this problem too, then you might have a recipe for a managed monetary policy that Austrians would have little to object to.