Bob Murphy, George Orwell, me, and the meaning of inflation

I think (not 100% sure) that Bob Murphy accuses me (and Scott Sumner) of doing something sort of Orwellian. Dunno, but I don't think I am.

(And BTW, I don't think Austrians are necessarily doing anything Orwellian with their way(s) of using the word "inflation", though maybe some of them are being a bit overly traditionalist in sticking to the old meaning, though they could perhaps defend themselves by saying the old definition is more useful than the new.)

There are two ways to change the meaning of "inflation"/inflation:

1. We could change the dictionaries and how people use the word, to change the meaning of the word "inflation".

2. We could change monetary policy, so that inflation would mean something different.

Possibly those two things are related, but I want to concentrate on the second.

Let's consider three different monetary policies:

1. Every 10 years or so, the central bank secretly flips a coin to decide whether to target 0% CPI inflation or 10% CPI inflation. (Very roughly, that was sort of like monetary policy before 1992, at least for Canada).

2. The central bank throws away the coin, and sticks to targeting 2% CPI inflation. (1992 to present).

3. The central bank targets 5% level-path NGDP growth ("5% NGDP inflation"?). (Canada's future??)

An increase in the rate of CPI inflation would mean something very different under those three different policies.

In policy 1 it would probably mean the coin came up tails, and the central bank had increased the inflation target.

In policy 2: if inflation rose above the 2% target it would mean the central bank had made a mistake in forecasting inflation and would be revising its expectations and actions accordingly; but if inflation had increased from below target to 2% it would mean the central bank had corrected a previous mistake.

In policy 3 it would probably mean there had been some sort of negative supply shock.

Now suppose you were an economist, and a journalist asked you "Is this news about higher CPI inflation good news or bad news?". You would give very different answers under each of the three monetary policy regimes:

Policy 1. Different economists might give different answers, depending on their views about long-run non-superneutrality (what's the best long run inflation target) and on the short run costs and benefits of switching from one target to another. Some would say it's good news and others say it's bad news.

Policy 2. You would talk about the central bank's mistakes; whether it's good or bad news in this regard would depend on whether inflation had risen above the 2% target or had risen from below the 2% target. If it had risen above the 2% target you would also speculate on whether the central bank's mistake was caused by news about a positive demand shock or a negative supply shock. A negative supply shock would be bad news, but a positive demand shock isn't obviously either good or bad.

Policy 3. If NGDP were on target, which it probably would be, this news about higher inflation would very probably be bad news, because it would mean real incomes would be lower.

I think that if you asked a normal (non-economist) person whether it was good news or bad news, the answer would be similar to the economist's answer in policy 3 (NGDP targeting) regardless of the monetary policy in effect at the time.

In that sense, a policy of targeting NGDP would make the "meaning" of inflation to an economist very similar to what inflation "means" to a normal person. And in that sense, NGDP targeting is the exact opposite of Orwellian. (Or have I changed the meaning of "meaning"?)

And NGDP targeting isn't just a way of slipping in a policy of increasing CPI inflation without anyone noticing. It's more like the opposite. Switching from inflation targeting to NGDP targeting is an alternative to raising the inflation target as a way to avoid the ZLB. For the same risk of hitting the ZLB, an NGDP target would give lower inflation on average than an inflation target.

Update: a really interesting question, but one really beyond my competence, would be to consider how my first two things are related, and whether the historical changes in monetary policy from gold standard to inflation targeting have caused the historical changes in how economists and normal people have used the word "inflation".

Comments

[Bob Murphy]

Thanks for the post, Nick. I can't read it right now, but I will savor the thought of when I can...

Just to clarify, I guess my post *did* imply that you and Scott were being Orwellian, but that wasn't my intent. Rather, in my previous post on this issue (i.e. the attempt by some Austrians to document the historical change in definition), some libertarian types were accusing me of believing in "central planning" of language etc. So I wanted to remind them of the classic Orwell essay, to show that what I was saying was totally consistent with stuff that libertarian types generally endorse.

[Ron Ronson]

A change in the price level could occur because of changes in :
- RGDP
- Money Velocity
- The money supply

Movements in these variables can push the price level in different directions with the overall change in the price level reflecting the net effect.

I think Austrians are particularly interested in the scenario where RGDP increases (downward pressure on price) combined with money supply increases (upward pressure). If these 2 cancel each other out then you can get no price level changes. However Austrians think this can be dangerous. Because price are stabile people don't notice the increased money supply and this can causes interest rates to be lower than they otherwise would be with the kind of distortions described in ABCT. They think this happened in the 1920's and (under inflation targeting) during the 2000's.

I think that if pushed most (sensible) Austrians would define inflation/deflation as "changes in M not in response to changes in V" rather than just changes in M, and given their interest in inter-temporal distortions there is some logic in this definition.

[FR Woolley]

"'When I use a word,' Humpty Dumpty said, in rather a scornful tone, 'it means just what I choose it to mean — neither more nor less.'
'The question is,' said Alice, 'whether you can make words mean so many different things.'
'The question is,' said Humpty Dumpty, 'which is to be master — that's all.'
Alice was too much puzzled to say anything; so after a minute Humpty Dumpty began again. 'They've a temper, some of them — particularly verbs: they're the proudest — adjectives you can do anything with, but not verbs — however, I can manage the whole lot of them! Impenetrability! That's what I say!'

[jsalvatier]

For these kinds of language discussions, I think its very useful to keep in mind the statistical perspective on language (http://lesswrong.com/lw/od/37_ways_that_words_can_be_wrong/). It helps me avoid a lot of unnecessary confusion.

[jsalvatier]

In particular, I think it would be useful to think about the connotations associated with the word 'inflation' (http://lesswrong.com/lw/ny/sneaking_in_connotations/).

[Frank Restly]

Nick,

"And NGDP targeting isn't just a way of slipping in a policy of increasing CPI inflation without anyone noticing."

First, the central bank does not have the requisite tools to hit any goods related target. The central bank does not produce, consume, buy, or sell goods. Second, nominal GDP futures (or nominal GDP output gap futures) would presumably be a fiscal (not monetary) policy tool.

Finally, what it is the central bank's reaction function if nominal growth overshoots it's target? Does it make a difference to the central bank if nominal GDP overshoots because of higher real growth or inflation? Should the central bank try to constrain both?

[Wonks Anonymous]

Libertarians shouldn't endorse Orwell on language. He was wrong (and a socialist, not that the two are necessarily related).

[Steve]

Don't know if this is helpful, but a Google search on the "Austrian definition of inflation" led me to this. As early as 1909, Mises wrote that inflation is "an increase in the quantity of money (in the broader sense of the term, so as to include fiduciary media as well), that is not offset by a corresponding increase in the need for money (again in the broader sense of the term), so that a fall in the objective exchange-value of money must occur." As pointed out by Per Bylund in the linked entry, "Austrians commonly refer to only the first part of this definition – the increase in the quantity of money – without the specifying statement that inflation is only that part which is not offset by an increased demand for money." The fall in the objective exchange-value part of the definition seems to correspond to how inflation would commonly be defined now.