The Governor himself told an audience in London on Wednesday night, 'I have even been accused of being an inflation nutter - I can't think what gives them that idea.'
Phobics never can; and anyway he has a rational institutional motive for playing up the fear of inflation because it reinforces the campaign for an 'independent' Bank whose rulers would in consequence be more powerful.
Less easy to stomach was the Governor's strong insistence on Wednesday that his real goal is more growth and employment, and that a tight monetary policy contributes to these real goals because stable prices make the whole economy more efficient. There is no serious historical or international evidence for the proposition that low inflation is a sufficient condition of faster growth or lower unemployment, any more than that faster inflation works these miracles. Still less is there evidence for the proposition that depressing the level of demand way below what is necessary to eliminate inflationary pressures will generate yet more growth and jobs without limit.
As a result of inflation phobia, the economy is being operated at an abysmally depressed level of activity, wasting resources that could be produced and employment opportunities that could be filled (notwithstanding the verticality of the Phillips curve in the long run]).
At root this seems to stem from a deep rage felt by its sufferers against the economy for having let them down by its inflationary excesses in the Seventies and a puritanical, almost Calvinist, desire to make it suffer now for its sins then. But this non-economic prejudice is aggravated by the debased recent practice in economic commentary of discriminating between 'recession' and 'recovery' on the basis of whether output is rising or falling rather than on the basis of whether the level of economic activity is high or low in relation to the capacity of the economy. (The practice was devised, as I recall, in 1968 by Professor Arthur Okun to help Lyndon Johnson say in an election year that a recession was 'not a recession'.)
Thus, in the Bank of England's Inflation Report on Tuesday it presented a set of charts that show the fall in output in the past three 'recessions', defined as the periods when output was actually falling, and the gain in the subsequent 'recoveries'. It follows from this arbitrary, perverse and novel labelling that the 'recession' ended two years ago and that 'recovery' has been under way ever since.
On that definition an economy could be out 'of recession' and into 'recovery' even though it was operating at 25 per cent of its capacity, with 60 per cent of its workforce unemployed and with the gap between actual output and non- inflationary capacity still getting wider. This usage beggars common sense; and it becomes malignant when it begins to be used as an argument for deflationary monetary policies in the midst of depression.
The target level of output (neither boom, nor recession) should be the fullest use of capacity without inflationary pressures; and that level will rise over time in line with the long-term underlying growth of economic potential. On the basis that the economy had just about eliminated such pressures after the first two quarters of plunging output at the end of 1990 and that long-term growth is still around the robust 2.3 per cent a year it has been for most of the post-war period, the target line is the upper line on the chart, left, marked potential national output.
Actual output to date and projected forward at 3 per cent a year growth (faster than the 2 1/2 per cent being achieved) is shown on the chart as the lower line.
On this basis we can see, from the shaded area between the two lines, that the recession only began to diminish - and only infinitessimally so far - in the third quarter of 1993, will continue until the middle of 2002, has so far cost the economy in lost output pounds 75bn (at 1990 prices) and will have cost pounds 187bn by the time it is all over, still, by hypothesis, with no inflationary pressures. Measured in this way this was, at its peak, by far the deepest recession Britain has experienced for 60 years (6 per cent of GDP against a previous maximum of less than 3 per cent in 1982).
Neither the Bank of England in its professionally written Inflation Report nor other subscribers to the opinion that fiscal and monetary policy should now be 'neutral' (not trying to simulate or restrain the economy from its present trend) are actually prepared to argue that there are any inflationary pressures apparent or foreseeable in the economy, though the Bank worries that financial markets irrationally discount faster inflation (the remedy for that is to borrow in indexed units, or foreign currency, and save the taxpayer money).
If it were true that the economy was now operating at about its target level, that 2 1/2 per cent growth was satisfactory and that no further relaxation of monetary policy was needed to balance the gratuitous tightening of fiscal policy last November, it would follow that the real long-term annual growth of the economy over the past three and a bit years suddenly collapsed to two-thirds of 1 per cent, after half a century at around 2 per cent. And that, as Leibniz pointed out, natura non facit saltus, does not happen.
(Photograph and graph omitted)
The writer is Economics Editor of the BBC.
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