Tim Young, in typically combative style, doubts in a comment on this blog that there really is a credibility problem in the face of deflation. I accept that historically, and theoretically, we have focused on the difficulty of persuading the private sector that we will not generate too much inflation, thereby eroding the real value of nominal government debt, nor nominal wage contracts.
However, there are two genuine doubts that observers of a central bank might have.
First, there is the doubt that, whatever they say about how confident they are, central banks may not have potent or reliable tools to fight deflation in the face of the zero bound. The Bank of England has reassured us that ‘we have the tools’. But perhaps they haven’t. We know that they have a vested interest in reassuring us because in so doing, they help anchor inflation expectations, and thus inflation itself, and thus make their lives easier.
Second, there lurks the suspicion in the popular mind that central banks are actually inflation nutters and would really like 0 inflation, rather than the 2 per cent actually mandated. Sure, we had a history of governments in the UK and elsewhere generating too much inflation. But monetary policy was then supposedly passed on to these central bank types to solve that problem. Perhaps this was overdone? If you think this is far-fetched, note that several official remarks about our sub-target inflation, and remarks by prominent commentators, have been approving of the benefits of 0 inflation.
So, for those reasons, I think Marvin Goodfriend was right to warn that there is a credibility issue in fighting deflation, or at least sub-target inflation, and, accordingly, a motive for monetary policy to lean towards the vigorously stimulative.