Relevance of Inflation Targeting in the Post-Great Recession Economic Environment
The recent global economic crunch has elicited several debates. Observably, economic policies have been affected by these debates. Coupled with high rates of underemployment and unemployment, post-great recession remains as a notable economic catastrophe (De Mello 11). Even brilliant global economies have felt the pinch considerably. Public and private debts within states have immensely grown. Economists have diverse perceptions on the concept of inflation targeting. Some policy makers have also regarded recession as a replication of consumer bubble. However, the greatest challenge for policy makers is how to get out of the economic mess.
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Most policymakers still view inflation targeting to be relevant in steering economy. There have been reiterations that the challenge of high consumer debt can be solved by raising inflation levels. Indicatively, high inflation reduces the challenges associated with debts. Basically, this is because the finances that an individual or economy owe have minimal value within a longer period. As stated by some economists, inflation targeting forces the companies that hoard massive financial reserves to channel them into expenditures (Billi & Kahn, 2008).
In the long run, this has a positive impact on the entire economy. Therefore, because of inflation targeting, central banks create high levels of inflation through the increase of monetary supply. Targeting inflation remains relevant in this era. However, caution must be taken. This is because high levels of inflation may be very detrimental if not properly monitored. Debates supporting the concept of inflation targeting are premised on the idea that recession remains as a greater challenge relative to the state of high inflation.
The Principal Premise Behind Inflation –Targeting
Inflation is what occurs to the prices of basic commodities over a given period. In an economy, prices increase whenever there is a monetary expenditure. Notable impacts of inflation arise whenever there are excessive monetary expenditures within a concerned economy (Blejer, Ize, Leone, & Werlang 36). For instance, the demand is more likely to outrun the supply. Moreover, the levels of interest rates chargeable on borrowing get escalate. Technically, this initiative is undertaken to increase the loaning costs. This process also slows and minimizes the levels of cash entering a specific economy.
Generally, inflation has the capacity to wear down the worth of cash within longer periods. Inflation targeting refers to a financial policy strategy. It is dominated by a publicized arithmetic inflation target. Inflation targeting operates in a flexible manner. The process endeavors to stabilize the general inflation. Inflation targeting can operate in both an explicit and implicit form (Billi & Kahn, 2008). The inflation targeting has the unique capacity to direct monetary policies such that they do not interfere with the operations within central banks.
Generally, inflation targeting provides a basic obligation to forecasts. Inflation is forecasted through the execution of inflation targeting policies. The basis of inflation targeting is always to monitor and control the level of inflation within a specific economy. Therefore, it offers powerful probabilities and incentives for attaining optimal economic policy relative to the other monetary policies. Analytically, inflation targeting utilizes the basic theory regarding optimal policy. In this approach, its objective role is provided by the principal function of elastic inflation targeting. This summarizes the principal premise behind inflation targeting.
Evidence That Managing the Money Supply Is the Principal Task of Inflation Targeting
Inflation targeting exercises tremendous economic policies. Through this process, concerned central banks maintain inflation in a quantitatively acknowledged band. The most distinct feature of inflation targeting is that in its practice, the central bank must communicate to the general public (Cogley 97). Basically, the quantitative monitoring aspect in inflation targeting is important. This is because it entails the regulation of the amounts of money within an economy. As a policy directive, inflation targeting seeks to maintain the level of inflation within tolerable ranges. Agreeably, it is the amount of cash in circulation within an economy that results into the effects of inflation. Therefore, it can be noted that inflation targeting operates to manage the money supply within an economy.
The present research, which focuses on the effects of inflation targeting on the asset price shocks, remains eminent. It indicates how the concept operates in the management of cash flows (De Mello 38). Monetary innovations as well as globalization includes some of the topics that inflation targeting has recently ventured. From the definition, it can be deduced that inflation targeting is a significant operative tool within an economy. It emanates as a short term cash demand management technique within most global economies. Interest rates include some of the basic instruments applied to accomplish an inflation policy aim. Through this observation, most central banks periodically review their cash rates. Inflation targeting dominates as the principal operative guideline for policy communication during such periods. Thus, it is notable that inflation targeting is a crucial methodology for managing the supply of money within an economy.
An Ideal Rate of Inflation
The question as to whether there exists an ideal inflation rate has globally drawn significant debates. The realization is that even with minimal inflation rates, there are still negative economic trends. For instance, most powerful global economies have continued to experience credit or asset bubbles. Notably, these have occured even in low inflation rates. The general implication is that targeting an inflation rate might be inadequate. Most policymakers have indicated that increases in inflation rates may be significant or just benign.
Therefore, adjustments on the rates of inflation would have unpredictable long run implications on the economy (Cogley 199). This issue has considerable debates. The prevalent conclusion is that no one has an absolute justification of an ideal rate of inflation. An increased inflation rate may lead to various alterations within an economy. For instance, it may result into limited cases in which monetary policy gets trapped. This normally occurs against a specified zero bound. This impact is widely viewed as positive. However, an increased level of inflation also presents significant challenges.
Price distortion is the most important and largely experienced difficulty of an increased inflation rate (De Mello 65). Observably, prices do not inflate in a similar trend or pattern. Therefore, a high inflation leads to the development of considerable price disturbances in the economy. Consequently, resource misallocation may be experienced within an economy.
It is imperative to indicate that there is a direct proportionality in the relationship between high inflation rate and the level of price misallocation (Blejer, Ize, Leone, & Werlang 42). After a comprehensive consideration of the costs and merits, most economists propose an optimal target of below 2 per cent. There are several factors to be considered in setting the optimal target of inflation within an economy. The charge of evading a zero bound is dictated by the extent of severity of specific macroeconomic situation. It is agreeable that there seems to be no ideal inflation rate.
Monetary Policy Makers and Policy Initiatives
Presently, extensive research aimed to aid the comprehension of economic factors influencing inflation rate is underway. Generally, it is evident that most policy makers are ill-informed of the underpinning factors of inflation rate. This is because most monetary policies have failed to comprehensively tackle the current economic fluctuations (Blejer, Ize, Leone, & Werlang 69). There is an increasing concern that an elevated inflation rate will force inflation to be highly volatile. Policy makers have also realized that an elevated target may not be adequate to counteract a severe recession. The failure of most economic policies to challenge the recent economic crisis is indicative of the dearth of knowledge. Particularly, this is on the side of policy makers. The need to increase the levels of global economic research as outlined in most policy briefs is a positive observation.
A global analysis of the disparities in monetary policies within different states reflects the appalling situation (Billi & Kahn 245). There is notable reluctance by different states to adopt more robust and strategic monetary policy initiatives. For instance, it is observable that relatively few states have adopted the inflation targeting policies. Instead, there are a lot of criticisms within the public domain concerning ineffective monetary policies. Therefore, it is important for policy makers to understand and act along these notable economic patterns. This initiative will enhance the formulation and implementation of effective monetary policies. Consequently, it will improve the economy of most countries.
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Billi, Roberto, & George Kahn. What Is the Optimal Inflation Rate? 2008. Web.
Blejer, Mario, Alain Ize, Alfredo Leone, & Sergio Werlang. Inflation Targeting in Practice: Strategic and Operational Issues and Application to Emerging Market Economies. Washington, DC, 2000. Print.
Cogley, Timothy. What is the Optimal Rate of Inflation? 1997. Web.
De Mello, Luiz. Monetary Policies and Inflation Targeting in Emerging Economies. Paris: OECD, 2008. Print.