In his Sunday article published in The New York Times, and quoted by El Economista, Krugman questions taking 2% as the inflation target for monetary policy because history does not support that it is the threshold needed to maintain a prosperous economy.
He asks, “What price are we prepared to pay to get back to 2%?”
Krugman recalls that in the second half of the 1980s, the US had considerably higher inflation and that the Fed “felt comfortable” because “it was only around 4%” and was not seen as a problem in public opinion – since the country was growing at a good pace.
In this sense, the economist stresses that the current reference level began to be used so that the central bank would have room to maneuver during a recession.
Advocates of this stance “believed that 2% was high enough so that the Fed didn’t have to cut interest rates to zero and then find out later that it wasn’t enough,” he says. “But they were wrong,” he claims.
Krugman recalls the accommodative monetary policy since the financial crisis that, after leading interest rates down to 0%, forced the Fed and other central banks to “look for other tools to stimulate the economy.”
Therefore, Nobel infers that the real reason for keeping the benchmark at 2%. “risking at least a mild recession,” is due to a question of “credibility.” “They fear that if they loosen to 3%, the markets and public opinion will wonder whether they will eventually admit to 4% and then 5%, etc.,” he explains.
“One reassuring aspect of the current price increase is that longer-term inflation expectations have remained ‘anchored’, so there are no signs of a wage-price spiral as in the 1970s. To renounce the 2% target would be to risk losing that anchor,” he points out.
Several economists – such as Nouriel Roubini – and other observers have pointed to a recession in the US. In fact, most fear that the Fed’s current tightening of monetary policy to combat inflation, which is at 40-year highs, will only succeed at the cost of plunging the economy into recession.
After JPMorgan Chase CEO Jamie Dimon warned on Wednesday that the central bank’s tightening policies threaten to plunge the U.S. economy into recession, on Friday it was Citi CEO Jane Fraser who said she thinks the U.S. will have a hard time avoiding a recession.
(news updated at 20:10)