Energy, Inflation, and Recession

Below is an excerpt from my last research note entitled "Outlook 2015: Deflation Remains the Dominant Theme"  Happy holidays!  Chris   Outlook 2015: Deflation Remains the Dominant Theme KBRA December 16, 2014

A correspondent reminds me of… Scott Sumner (March 2012): TheMoneyIllusion » Eugene Fama makes me look like an MMTer: Now from the sublime to the ridiculous.  The interview continues…. Russ [Roberts]: Ben Bernanke is not a fool. If you could get him alone in a quiet place with nobody else listening and say: Ben, what were you thinking? What do you think he’d say?

You don't go to Inflation Report press conferences nowadays to get cheered up. The "news", if we can call it that, is that the Bank's Monetary Policy Committee (MPC) now thinks inflation will be significantly higher than they previously thought, not just in 2011 but in 2012. Indeed, if reality - by some freakish accident - follows the path suggested by the new forecast, the target measure of inflation will still be within shouting distance of 3% a year from now.

For the past two and a half years, inflation in the developed world has been the bogeyman that never shows his face. Growth in consumer prices has done nothing but decelerate, even as economic growth prospects have improved. Whether that is good or bad is debatable. On one hand, it has made it easier for the U.S. Federal Reserve to justify loose monetary policy aimed at strengthening the economic recovery.

The President's new initiative on increasing energy independence inspired much commentary on how much it was aspirational, rather than realistic; see for instance this extensive NYT article. In this post, I want to consider whether reduced dependence on imported energy is a worthwhile objective. Oil Price Shocks: How Important in the Past? What are the macroeconomic consequences of oil shocks.

SCOTT SUMNER has been a frequent subject of this blog over the past year or so. Mr Sumner, an economist at Bentley University, came to prominence during the recession and recovery for observing that the Fed was doing far too little to support the economy, and (perhaps more important) that it had helped precipitate the deep recession by doing too little in 2008, during which time nominal GDP was falling sharply.

MARK CARNEY, named late last year as Mervyn King's successor as governor of the Bank of England, wasted no time in setting high expectations (so to speak). In a December speech Mr Carney reckoned that a central bank facing a demand shortfall while stuck at the zero lower bound might do well to adopt a new target: a level of nominal GDP. He noted:

Reader RG sent me a link to a year-old paper from the New York Fed (PDF) which pretty clearly lays out the policy rationale for paying interest on excess bank reserves, and in the course of doing so helps explain why it’s a mistake: