There is an inflation crisis, and some are blaming central banks for following outdated monetarist policies as a response. But forgetting one of the central tenets of monetarism was what led to the current inflation crisis in the first place, argues John Greenwood.
The UK economy is in crisis, and some economists have blamed “the current economics orthodoxy” as being responsible for making it worse. They see the Bank of England’s attempts to regulate demand by raising interest rates, thus making borrowing more expensive, as a relic of failed “monetarist” policies of the past. But this criticism is misdirected.
The setting of interest rates by central banks is only part of a sound monetary policy. The more important part is to control the growth of the quantity of money. We can see this by noting that high interest rates can be consistent with rapid money growth and high inflation (as in Argentina and Turkey), while low interest rates can be consistent with inadequate money growth and either sub-target inflation or even deflation (as in Japan for most of the past three decades).
SUGGESTED READING
The real problem of economic policy
By Charles Goodhart
Over the past decade, the Bank of England has gradually shifted away from controlling money - a policy which is fundamental to achieving its mandate of 2% inflation – to placing more and more emphasis on interest rates and monetary/financial conditions indicators. It has ignored money growth. For example, the words “money supply” have not appeared in the Bank’s quarterly Inflation Report since August 2018. The result has been erratic money growth, leading to the current double-digit inflation.
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