There have been several recent posts in the blogospere arguing about the interpretation of graphs (for several countries, but you can see Canada's here) which show a big fall in NGDP (relative to trend) at the beginning of the 2008 recession. (The latest from Ryan Avent here; Tyler Cowen's collection of links here.)
Here are my simple thoughts.
2. It is easier to measure NGDP (nominal growth) than it is to measure RGDP (real growth) and P (inflation). To say the same thing another way, it is not easy to figure out how to decompose nominal growth into real growth and inflation. Because it's hard to measure things like quality changes. In that sense only, NGDP is more "real" than RGDP.
3. But how people respond to NGDP growth (or expected NGDP growth) will usually depend on how much of that (expected) NGDP growth was (expected) real growth and how much was (expected) inflation. Elasticities with respect to RGDP (or real growth) may be different from elasticities with respect to P (or inflation). If expected NGDP growth falls, the amount by which that causes current NGDP to fall might depend on how much expected real growth falls vs expected inflation falls. Adding expected real growth plus expected inflation together may be a useful simplification, but is only strictly correct if those two elasticities are the same.
4. If we observe NGDP and RGDP both suddenly fall, as they did in many countries in 2008, we cannot say from that fact alone that RGDP would not have fallen as much as it did if the central bank had held NGDP constant (growing at trend). But anyone who denies that assertion would have to believe that P would have increased (relative to trend) by the same amount that RGDP fell (relative to trend) if the central bank had held NGDP constant (growing at trend). Is that belief plausible?
5. A real business cycle theorist, who believes that prices are perfectly flexible, and who believes that monetary policy only affects nominal variables like NGDP and P, and does not affect real variables like RGDP, would believe that to be plausible.
6. Does anyone else believe that is plausible?
7. Update. I used to think that inflation targeting would be reasonably successful in preventing recessions due to deficient aggregate demand. Looking at those graphs for NGDP and P caused me to change my mind. Why? Because I saw that the Bank of Canada had been reasonably successful in keeping inflation close to target. But we still had a recession, in which both NGDP and RGDP fell sharply below trend, and it sure looked like a recession due to deficient aggregate demand. If changes in inflation had roughly matched that sharp fall in RGDP, I would have blamed the recession on the Bank of Canada failing to keep inflation on target. But that is not what happened. So instead I now blame the recession on the Bank of Canada failing to keep NGDP growing at trend, and I want the Bank of Canada to target NGDP.