Price stability

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Price stability is a goal of monetary and fiscal policy aiming to support sustainable rates of economic activity. Policy is set to maintain a very low rate of inflation or deflation. For example, the European Central Bank (ECB) describes price stability as a year-on-year increase in the Harmonised Index of Consumer Prices (HICP) for the Euro area of below 2%. However, by referring to "an increase in the HICP of below 2%" the ECB makes clear that not only persistent inflation above 2% but also deflation (i.e. a persistent decrease of the general price level) are inconsistent with the goal of price stability. [1]

In the United States, the Federal Reserve Act (as amended in 1977) directs the Federal Reserve to pursue policies promoting "maximum employment, stable prices, and moderate long-term interest rates". [2] The Fed long ago determined that the best way to meet those mandates is to target a rate of inflation of around 2%; in 2011 it officially adopted a 2% annual increase in the personal consumption expenditures price index (often called PCE inflation) as the target. [3] Since the mid-trend 1990s, the Federal Reserve's measure of the inflation trend averaged 1.7%, a mere 0.3% shy of the Federal Open Market Committee’s 2% target for overall PCE inflation. Trend inflation as measured by the price index of core personal consumption expenditures (PCE) – that is, excluding food and energy – has fluctuated between 1.2% and 2.3% over the past 20 years. [4]

In managing the rate of inflation or deflation, information and expectations play an important role, as explained by Jeffrey Lacker, President of the Federal Reserve Bank of Richmond: "If people expect inflation to erode the future value of money, they will rationally place a lower value on money today. This principle applies equally well to the price-setting behavior of firms. If a firm expects the general level of prices to rise by 3 percent over the coming year, it will take into account the expected increase in the costs of inputs and the prices of substitutes when setting its own prices today." [5]

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<span class="mw-page-title-main">Inflation</span> Devaluation of currency over a period of time

In economics, inflation is a general increase of the prices of goods and services in an economy. This is usually measured using the consumer price index (CPI). When the general price level rises, each unit of currency buys fewer goods and services; consequently, inflation corresponds to a reduction in the purchasing power of money. The opposite of CPI inflation is deflation, a decrease in the general price level of goods and services. The common measure of inflation is the inflation rate, the annualized percentage change in a general price index. As prices faced by households do not all increase at the same rate, the consumer price index (CPI) is often used for this purpose.

In economics, deflation is a decrease in the general price level of goods and services. Deflation occurs when the inflation rate falls below 0%. Inflation reduces the value of currency over time, but deflation increases it. This allows more goods and services to be bought than before with the same amount of currency. Deflation is distinct from disinflation, a slowdown in the inflation rate; i.e., when inflation declines to a lower rate but is still positive.

<span class="mw-page-title-main">Consumer price index</span> Statistic to indicate the change in typical household expenditure

A consumer price index (CPI) is a price index, the price of a weighted average market basket of consumer goods and services purchased by households. Changes in measured CPI track changes in prices over time. The CPI is calculated by using a representative basket of goods and services. The basket is updated periodically to reflect changes in consumer spending habits. The prices of the goods and services in the basket are collected monthly from a sample of retail and service establishments. The prices are then adjusted for changes in quality or features. Changes in the CPI can be used to track inflation over time and to compare inflation rates between different countries. The CPI is not a perfect measure of inflation or the cost of living, but it is a useful tool for tracking these economic indicators.

<span class="mw-page-title-main">Monetary policy</span> Policy of interest rates or money supply

Monetary policy is the policy adopted by the monetary authority of a nation to affect monetary and other financial conditions to accomplish broader objectives like high employment and price stability. Further purposes of a monetary policy may be to contribute to economic stability or to maintain predictable exchange rates with other currencies. Today most central banks in developed countries conduct their monetary policy within an inflation targeting framework, whereas the monetary policies of most developing countries' central banks target some kind of a fixed exchange rate system. A third monetary policy strategy, targeting the money supply, was widely followed during the 1980s, but has diminished in popularity since that, though it is still the official strategy in a number of emerging economies.

The Federal Open Market Committee (FOMC) is a committee within the Federal Reserve System that is charged under United States law with overseeing the nation's open market operations. This Federal Reserve committee makes key decisions about interest rates and the growth of the United States money supply. Under the terms of the original Federal Reserve Act, each of the Federal Reserve banks was authorized to buy and sell in the open market bonds and short term obligations of the United States Government, bank acceptances, cable transfers, and bills of exchange. Hence, the reserve banks were at times bidding against each other in the open market. In 1922, an informal committee was established to execute purchases and sales. The Banking Act of 1933 formed an official FOMC.

The Taylor rule is a monetary policy targeting rule. The rule was proposed in 1992 by American economist John B. Taylor for central banks to use to stabilize economic activity by appropriately setting short-term interest rates.

The PCE price index (PePP), also referred to as the PCE deflator, PCE price deflator, or the Implicit Price Deflator for Personal Consumption Expenditures by the Bureau of Economic Analysis (BEA) and as the Chain-type Price Index for Personal Consumption Expenditures (CTPIPCE) by the Federal Open Market Committee (FOMC), is a United States-wide indicator of the average increase in prices for all domestic personal consumption. It is benchmarked to a base of 2012 = 100. Using a variety of data including U.S. Consumer Price Index and Producer Price Index prices, it is derived from the largest component of the GDP in the BEA's National Income and Product Accounts, personal consumption expenditures.

The Harmonised Index of Consumer Prices (HICP) is an indicator of inflation and price stability for the European Central Bank (ECB). It is a consumer price index which is compiled according to a methodology that has been harmonised across EU countries. The euro area HICP is a weighted average of price indices of member states who have adopted the euro. The primary goal of the ECB is to maintain price stability, defined as keeping the year on year increase HICP below but close to 2% for the medium term. In order to do that, the ECB can control the short-term interest rate through Eonia, the European overnight index average, which affects market expectations. The HICP is also used to assess the convergence criteria on inflation which countries must fulfill in order to adopt the euro. In the United Kingdom, the HICP is called the CPI and is used to set the inflation target of the Bank of England.

In macroeconomics, inflation targeting is a monetary policy where a central bank follows an explicit target for the inflation rate for the medium-term and announces this inflation target to the public. The assumption is that the best that monetary policy can do to support long-term growth of the economy is to maintain price stability, and price stability is achieved by controlling inflation. The central bank uses interest rates as its main short-term monetary instrument.

Core inflation represents the long run trend in the price level. In measuring long run inflation, transitory price changes should be excluded. One way of accomplishing this is by excluding items frequently subject to volatile prices, like food and energy.

<span class="mw-page-title-main">Hungary and the euro</span> Plans since 2003 to replace the Hungarian forint with the euro

While the Hungarian government has been planning since 2003 to replace the Hungarian forint with the euro, as of 2023, there is no target date and the forint is not part of the European Exchange Rate Mechanism. An economic study in 2008 found that the adoption of the euro would increase foreign investment in Hungary by 30%, although current governor of the Hungarian National Bank and former Minister of the National Economy György Matolcsy said they did not want to give up the country's independence regarding corporate tax matters.

<span class="mw-page-title-main">Romania and the euro</span> Overview of the relationship between Romania and the Euro

Romania's national currency is the leu. After Romania joined the European Union (EU) in 2007, the country became required to replace the leu with the euro once it meets all four euro convergence criteria, as stated in article 140 of the Treaty on the Functioning of the European Union. As of 2023, the only currency on the market is the leu and the euro is not yet used in shops. The Romanian leu is not part of the European Exchange Rate Mechanism, although Romanian authorities are working to prepare the changeover to the euro. To achieve the currency changeover, Romania must undergo at least two years of stability within the limits of the convergence criteria. The current Romanian government established a self-imposed criterion to reach a certain level of real convergence as a steering anchor to decide the appropriate target year for ERM II membership and Euro adoption. In March 2018, the National Plan for the Adoption of the Euro scheduled the date for euro adoption in Romania as 2024. Nevertheless, in early 2021, this date was postponed to 2027 or 2028, and once again to 2029 in late 2021 and then moved up to 2026.

<span class="mw-page-title-main">Quantitative easing</span> Monetary policy tool

Quantitative easing (QE) is a monetary policy action where a central bank purchases predetermined amounts of government bonds or other financial assets in order to stimulate economic activity. Quantitative easing is a novel form of monetary policy that came into wide application after the financial crisis of 2007‍–‍2008. It is used to mitigate an economic recession when inflation is very low or negative, making standard monetary policy ineffective. Quantitative tightening (QT) does the opposite, where for monetary policy reasons, a central bank sells off some portion of its holdings of government bonds or other financial assets.

Headline inflation is a measure of the total inflation within an economy, including commodities such as food and energy prices, which tend to be much more volatile and prone to inflationary spikes. On the other hand, "core inflation" is calculated from a consumer price index minus the volatile food and energy components. Headline inflation may not present an accurate picture of an economy's inflationary trend since sector-specific inflationary spikes are unlikely to persist.

<span class="mw-page-title-main">James B. Bullard</span> Federal Reserve Bank president

James Brian Bullard is the former chief executive officer and 12th president of the Federal Reserve Bank of St. Louis, a position he held from 2008 until August 14, 2023. In July 2023, he was named dean of the Mitchell E. Daniels Jr. School of Business at Purdue University.

The Bernanke doctrine refers to measures, identified by Ben Bernanke while Chairman of the Board of Governors of the United States Federal Reserve, that the Federal Reserve can use in conducting monetary policy to combat deflation.

In the Philippines, monetary policy is the way the central bank, the Bangko Sentral ng Pilipinas, controls the supply and availability of money, the cost of money, and the rate of interest. With fiscal policy, monetary policy allows the government to influence the economy, control inflation, and stabilize currency.

Market monetarism is a school of macroeconomic thought that advocates that central banks target the level of nominal income instead of inflation, unemployment, or other measures of economic activity, including in times of shocks such as the bursting of the real estate bubble in 2006, and in the financial crisis that followed. In contrast to traditional monetarists, market monetarists do not believe monetary aggregates or commodity prices such as gold are the optimal guide to intervention. Market monetarists also reject the New Keynesian focus on interest rates as the primary instrument of monetary policy. Market monetarists prefer a nominal income target due to their twin beliefs that rational expectations are crucial to policy, and that markets react instantly to changes in their expectations about future policy, without the "long and variable lags" postulated by Milton Friedman.

<span class="mw-page-title-main">Robert P. Black</span>

Robert P. Black, a native of Hickman, Kentucky, was the fifth president (1973–1992) of the Federal Reserve Bank of Richmond, the headquarters of the Fifth District of the Federal Reserve System. He was preceded in that position by Aubrey N. Heflin and succeeded by J. Alfred Broaddus (1993–2004) and Jeffrey Lacker.

References

  1. ↑ ""The definition of price stability", European Central Bank, on line (April 5 2017)" . Retrieved 5 December 2017.
  2. ↑ Public Law 95-188 (Nov. 16 1977).
  3. ↑ "The Fed's plan to hike interest rates". The Economist . Retrieved 5 December 2017.
  4. ↑ Cecchetti, Stephen; Schoenholtz, Kim (28 March 2017). "The Fed's price stability achievement: A case for Federal Reserve independence" . Retrieved 5 December 2017.
  5. ↑ "The Outlook for Inflation and Inflation Expectations - Speech, Jeffrey M. Lacker, March 21, 2016 - Federal Reserve Bank of Richmond". www.richmondfed.org. Retrieved 5 December 2017.


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