Inflation target needs ‘sticky’ prices-SanFran Fed

SAN FRANCISCO, June 7 (BestGrowthStock) – Central banks that rely
on an inflation target to steer monetary policy should track
goods and services that have relatively stable prices,
according to a research paper released on Monday by the Federal
Reserve Bank of San Francisco.

In the U.S. context, where the Fed does not have an
explicit target for inflation, the well-known consumer price
index would be a poor basis for an inflation target, according
to the latest San Francisco Fed Economic Letter.

The CPI is unsuitable because it includes food and gas,
whose prices fluctuate frequently, and such items as tobacco,
whose price is swayed more by tax policy than by market forces,
the paper said. The index is also a measure of the cost of
living, which is not necessarily the best target for monetary
policy, according to the paper.

“It is not automatic that monetary policy should be
directed at stabilizing changes in the cost of living,” wrote
Richard Dennis, a senior economist at the regional Fed bank.

“In a world with many goods and services whose prices do
not change in unison or for the same reason, inflation is most
usefully thought of as a generalized upward movement in prices,
rather than simply an upward movement in one particular basket
of goods and services.”

A better choice would be an index that includes the prices
of durable goods and services but excludes all nondurable
goods, which tend to have more volatile prices, the paper
said.

“An important line of economic reasoning suggests that it
is the generalized upward movement in an index of goods and
services whose prices are market-determined and ‘sticky’ that a
central bank ought to be concerned about,” Dennis wrote.

By using an index that tracks goods and services with
sticky prices and excludes volatile nondurable goods, “monetary
policy would avoid the disruption of economic activity caused
by efforts to offset the transitory shocks produced by
nondurables inflation.”

Investing Analysis
(Reporting by Ann Saphir, Editing by Chizu Nomiyama)

Inflation target needs ‘sticky’ prices-SanFran Fed