Will Higher Inflation Help the Economy?
In today's NY Times, Tyler Cowen presents a case for monetary expansion as a way to help the economy recover:
"The Federal Reserve, pondering what to do to stimulate the economy, has a number of tools at its disposal. But if it could just convince Americans that it was committed to monetary expansion and economic growth, it would help the economy pick up speed.
Yet that is easier said than done. Here’s the problem: The economy needs help, but monetary policy, which is the Fed’s responsibility, has not been very expansionary. This is true even though the Fed has increased the monetary base enormously since the onset of the financial crisis.
How can this be? Supplying more money did not actually result in enough additional spending. The debilitating financial shock of the last few years convinced many consumers and businesses that they needed to save more. So they are holding on to much of the new money.
Given this problem, there is a logical and seemingly simple move available to the Fed: just make people believe that it is seriously committed to increasing the rate of inflation.
As high unemployment continues, more and more people, including top economists, are asking the Fed to promise a credible commitment to a more expansionary monetary policy. This approach will work only if the Fed finds a way to be bold — and if we find a way to believe in it."
MP: The graph above shows that we may be getting some of the monetary expansion Tyler is advocating. In the first week of September, M2 grew at an annual rate of 3.2%, the highest growth in the money supply since mid-December of last year (data). Given the low growth in real output (1.6% in QII 2010), we might have the ingredients necessary for some inflationary pressures, and according to Tyler an improvement in economic growth.