Inflation Misses Across the World Fuel Central Bank Debates
(Bloomberg) -- With so many central banks failing to hit their inflation targets, some are considering changes to the tool kits they use to steer their economies.
Norway’s decision to lower its price target is just the latest example, and follows more or less official adjustments in Sweden, Argentina and the euro area. Even in New Zealand, the birthplace of inflation targeting, the central bank is shifting to a broader goal that includes a focus on employment.
But there’s no one-fits-all solution for monetary authorities and debate is splintered. Raising inflation targets has been discussed equally intensively in recent years as reducing or amending them. And while some central banks acknowledge a need to reconsider their mandates, others are doubling down on existing policies.
Claudio Borio, a top official at the Bank for International Settlements, poured fuel on the debate in September with a provocative speech calling for a broad rethink that accounts for how globalization and technological advances have influenced inflation.
“Shall we throw away the books?” European Central Bank President Mario Draghi asked on Thursday. “There are serious costs about changing course on credibility and the anchoring of expectations. We can go on on this for a while about changing objective.”
Below is a look at how the global discussion is playing out in individual countries.
Federal Reserve officials have been talking about operating regimes for years, and the discussion continues as the central bank struggles to reach its 2 percent inflation target, which it has missed for most of the past five years. Core consumer-price gains came in at 1.8 percent in February from a year earlier.
In January, a couple of Fed officials discussed expressing the inflation target as a range instead of a point estimate, while others suggested the policy committee examine price-level targeting, meeting minutes show. Price-level targeting has support from John Williams, president of the San Francisco Fed, who in November has called it a “powerful way to cope with the zero lower bound.” Any change to the 2 percent target would draw scrutiny from Congress. Fed Chairman Jerome Powell was questioned on the topic at a monetary policy hearing last month. “I would say that the framework is working,” he told the House Financial Services Committee.
While ECB policy makers have faithfully stood by their price-stability target throughout the crises that hit the 19-nation euro area in the past decade, they have allowed themselves more time to reach their goal. The medium-term horizon in which headline inflation is envisaged to hover below but close to 2 percent -- once understood to cover 18 to 24 months -- has lengthened to somewhere between 3 to 5 years. Price growth, which temporarily brushed 2 percent in 2017 on the back of surging oil, isn’t forecast to return sustainably to such rates before the end of 2020.
In their defense of unprecedented monetary stimulus, officials have also shifted their focus from broad inflation measures to those that strip out volatile components. Draghi argued on Thursday that underlying price pressures “remain subdued and have yet to show convincing signs of a sustained upward trend” -- shorthand for asset purchases and record-low interest rates will still be needed for some time.
The Bank of England has also been flexible when it comes to meeting its target, which is 2 percent. It’s looked through large deviations in the past that have been caused by factors such as sharp currency moves, and recently lengthened its policy horizon temporarily to allow it provide monetary support to the economy. Such moves have been easier since 2013, when then-Chancellor of the Exchequer George Osborne tweaked the BOE’s remit and told it to consider the “trade-offs” of trying to return inflation to target too fast.
Norway this month made the first changes to its framework in 17 years, lowering the inflation target to 2 percent from 2.5 percent. This brings it in line with the target of other central banks and is a reasonable step because the massive inflow of oil revenue into the economy will start abating, the government argued. It also formally enshrined that inflation targeting shall be “forward-looking” and “flexible” to contribute to “high and stable output and employment” and inserted a phrase that said the bank shall also counteract the “build-up of financial imbalances.”
Sweden’s Riksbank last year gave itself more wiggle-room to unwind some of the massive stimulus it has unleashed over the past three years after half a decade of below-target inflation. The bank changed the price gauge to factor out mortgage costs and also re-introduced a “variation band” of 1-3 percentage point around the 2 percent target. There’s also a broader government-appointed review under way looking at the entire 20-year-old framework, which will deliver its recommendations in early 2019.
Polish inflation, whose control is the central bank’s main mandate, has undershot the 2.5 percent mid-point target almost continuously since 2012. A proposal by council member Kamil Zubelewicz to lower the goal -- set 14 years ago -- hasn’t won any support. Official borrowing costs have remained on hold since March 2015, the longest pause in Poland’s history, and Governor Adam Glapinski has raised the possibility that interest rates could remain stable into 2020 after forecasts showed inflation near the target over the next two years.
Three decades after introducing inflation targeting to the world, the Reserve Bank of New Zealand is broadening its mandate to include a focus on jobs. The shift was triggered by a change of government. The new administration also wants to add external members to the bank’s policy setting board.
Governor Haruhiko Kuroda has repeatedly pushed back the the time frame for hitting the Bank of Japan’s 2 percent inflation target that was adopted in 2013 after years of deflation. That has stoked debate in two ways: some critics say the target is too high while supporters say the unprecedented stimulus unleashed since Prime Minister Shinzo Abe came to office will eventually push prices higher. The Bank of Japan Act states that the BOJ’s mandate is to keep both inflation and the financial system stable. The latter has historical resonance given the country’s economic collapse in the 1990s amid a mountain of bad debt.
The Reserve Bank of India formally adopted a new policy mandate in early 2015 to keep inflation over the medium term at 4 percent, within a 2 percentage point range either side. A six-member committee, comprised of three central bankers and three external economists meet every two months to decide on rates. The RBI’s inflation model consists of four variables: the output gap, the Phillips curve that assesses the impact of unemployment, the Taylor rule for short-term interest rates that also guides several global central banks, and interest rate parity through exchange rates. Critics say the RBI has not been able to capture the vast informal sector in its inflation calculations, while defenders say it’s an anchor of stability.
The Reserve Bank of Australia has a dual mandate of maintaining stability of the currency and full employment. Both support its over-arching goal of inflation averaging between 2 percent and 3 percent over time. Governor Philip Lowe has all but ruled out further reducing interest rates in order to speed up inflation’s return to target and warned that additional easing would increase risks at a time of accelerating house prices. He’s also said RBA officials aren’t “inflation nutters.” The central bank is instead being guided by an obscure piece of legislation dating back to World War II: a rarely-discussed third objective focused on the economic prosperity and welfare of the people of Australia. It’s using this to justify a policy of patience that’s designed to allow inflation to gradually return to target.
The Bank of Canada resets its policy framework every five years in consultation with the government, and years of preparation go toward forging the agreement. The next mandate review comes in 2021, and the Bank of Canada -- which has largely missed its inflation target on the low end in recent years -- is already vetting ideas, including the possibility of nominal GDP targeting.
In Brazil, a country traditionally beset by high inflation rates, a recent relief in prices has allowed policy makers to reduce the official target for the next couple of years while still cutting borrowing costs to an all-time low. The inflation goal, currently 4.5 percent a year, will fall to 4.25 percent in 2019 and to 4 percent in 2020. Meanwhile, 12-month inflation remains at 2.84 percent -- below the floor of the target range.
In December, Argentina eased its inflation targets for the next two years, hoping that would give the central bank more room to pursue looser monetary policy in a bid to support a weak economic recovery. The monetary authority now aims for inflation of 15 percent in 2018, up from a previous target of 8 percent to 12 percent. The government also relaxed its 2019 inflation target to 10 percent.
©2018 Bloomberg L.P.