Is there some sort of mathematical reason behind this goal? Does 3% have some sort of long-term effects such that it becomes uncontrollable or something?
It seems like, inflation or not, places are just as busy (restaurants, Target/Wal-Mart, Costco, etc…).
In: Economics
I mean, there’s not a lot of difference between them – but you’ve got to set the target somewhere and 2% is the target
There’s nothing magic about 2%. It’s just low without being so low that you risk going into deflation if the rate dips.
3% is not that bad but 4 or 5 or 6 percent is and the fact that it went up to 3% again makes it going up even more seem like less of an impossibility.
Inflation is a positive feedback loop. Inflation causes inflation – prices go up, employees demand higher wages, so prices go up. Round and round it goes. The higher the inflation you accept, the more danger there is of an upward spiral that gets out of control. Deflation is even worse, and is also a self causing feedback loop, so you don’t target 0%, but lower is safer. (Deflation: prices go down, so sellers have less cash so they pay less, so prices go down, then people get laid off, and then no one has money so prices drop again, round and round she goes.)
The simple fact is – change is bad for the economy. Balancing it is difficult – all our tools for maintaining a balance are blunt instruments. For example – you raise interest rates to control the money supply so prices will go down or stop rising – but raising interest rates also increases everyone’s housing costs which causes related prices to go up.
The central bank’s objective is always to smooth out the economy – slow changes over long periods of time is what you want to see. Sudden changes make the economy unstable (in both directions) and unstable things always eventually crash.
1-3% Inflation is low enough to not upend people’s lives, while remaining high enough to prevent stagnation or deflation.
Currently We’re at 3% inflation, which it within the desired range. The reason the Fed is wating for 2% is that lowering interest rates will promote more spending. Spending raises inflation, so they want that 1% buffer to prevent it from getting out of hand when they lower interest rates.
There is nothing magic about the 2% target. The choice of exactly 2% instead of a slightly higher number like 3% is somewhat arbitrary but grounded in a trade-off between higher inflation costs and the benefits of greater flexibility and buffer against deflation. 2% being the target inflation rate emerged in the 1990s, becoming widely adopted among central banks, including the Federal Reserve, which formally adopted this target in 2012.
Nothing. They want “low” inflation and decided to set 2% as the benchmark. Which is fine – a target to work towards is a good thing to help everyone set policy with the same goals.
When that didn’t quite work, they targeted an average over a longer term at 2%. Which is also pretty well ok, except we had experienced “too little” inflation for some time, so it mostly let them quietly miss their initial target.
And if I remember correctly, fuel, food and housing are all excluded from inflation because “reasons.” So the 2% number is not too useful anyway.
The reality is they’ll work on reducing inflation, mostly through increased interest rates, and regularly report an “inflation” number as a status update. When they’re satisfied with the overall situation, they’ll drop rates and report all is well.
Inflation anchor has been an on going debate among us economists, why is it precisely 2%, why not 1.8% or 2.15%? In short there is really no real mathematical reason behind the number of 2%, you can think of it as an arbitrary number that have worked in the US, and much of the developed economies, so we just sticking with it at this point, perhaps 3% will work just as well or even better. There are some emprical studies on inflation target, but they usually don’t pinpoint it at exactly 2%.
You actually raised a good point, and matter fact there are many economists who argue for higher inflation anchor, and there are certainly some merits to their arguments, such as more room before hitting the zero bound, permanent changes in supply demand dynamic, etc…
FYI, I read from somewhere that the origin of 2% target is from either New Zealand or Australia, and it was just an arbitrary number they picked.
I just watched a YouTube video of lex Fridman and Michael Saylor. Saylor discusses how the real inflation rate has been around 7% for the last 90 years.He discusses how CPI the governments measure of inflation is a basket of goods and services which the government constantly changes.He discusses how assets are not used to measure CPI.Inflation is taxation by stealth.
2% PCE (not CPI) and it’s fairly new and arbitrary. It’s what the FED feels is a comfortable balance between price stability and full employment. Lower risks a recession and higher brings the high inflation no fun.
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