The more you think about what inflation targeting actually means as an economic policy, the more you realise how utterly absurd it.
Question: why is the price that we pay for all our goods and services, right now, so sacrosanct?
Let’s think about it. The remit of the Bank Of England is to set monetary policy so that the inflation rate, as measured by the Consumer Prices Index, is around 2%
The government likes to tell us that this is the level that achieves “stable prices”, which is odd because it actually means the value of money halves every generation. But hey, that’s another story. Anyway, the stats boffins go out there and measure prices in the shops of a basket of goods that the average consumer is deemed to buy (incidentally this basket of goods is forever changing, if nothing else because some things we can buy today didn’t even exist 50 years ago) then weighted (for example, a 100% increase in the price of a box of matches is treated as less important than a 100% increase in the price of petrol) and from this you get an index. There are various indices derived from this data, the present government has moved away from the Retail Prices Index (which rather oddly includes mortgage payments and so is ridiculously distorted by changes in interest rates) to the Consumer Prices Index (CPI).
So if you thought “2% inflation” means a straightforward 2% rise in prices, as you can see above it’s not as simple as that. It’s actually very difficult to determine what it means to talk about a “general price level” at all.
But no matter, let’s assume our inflation index is a worthwhile measure of price changes in our economy. OK, if the BoE has to target 2% CPI each year, what does that logically mean? Well, what they are saying is, today’s price level, whatever it is, is miraculously “correct” and next years price level, if 2% higher than this years (as they will do their level best to engineer with their monetary policy) will also be correct! And the year after, it will, oddly enough, be right for the price level to be another 2% higher. And so on. With the value of our money getting eroded all the while. On a fixed income? Oh look, in real terms you’re 10% worse off after 5 years! Brilliant!
It’s absurd to target the general price level and doing so is the cause of the current crisis.
Thanks to the Chinese industrial revolution, many of our goods have been falling in price in the past decade, and all other things being equal (i. e. without government interference), inflation should have been negative, but the BoE relaxed monetary policy to prevent the overall level of price rises ever falling below that sacred, mysteriously correct 2%.
The Bank deliberately engineered inflation in direct opposition to the economic fundamentals; in fact the government requires them to do this!
And so we ended up with a load of artificially cheap money with, to put it crudely, no where to go. Like squeezing on one end of a balloon, the funny money inflated into property and equities on a massive scale, balanced by the fall in consumer goods prices, so the Bank and the government could argue with a perfectly straight face inflation was “subdued” when house prices had tripled in just 10 years!
And notice how failure to hit the target in any year is “written off” in the targeting game. For example. the BoE has allowed inflation to exceed its 2% target for 20 months (and counting). And supposedly, we are going to see inflation below 2% in the next few years. But doesn’t that simply balance out the fact that it was above target previously? So it’s not a big deal? Well, they don’t seem to see it that way. Has to be 2% always, folks! Never, but never, let prices fall, even to correct a previous increase! See what I mean? As an economic policy it is literally nonsense. And there is absolutely no sign of them even thinking they need to look for an alternative.
Which means that to “cure” the credit crunch, they are repeating the idiotic monetary policy errors that got us into this mess in the first place. Which totally sucks balls.