Why the Eurozone Should Have a 4% Inflation Target
Paul Krugman:
Eurozone Inflation: Wolfgang Munchau agonizes over European inflation targets; he worries that rising German inflation may lead the ECB to raise rates, which would be disastrous for troubled peripheral economies.... Trying to keep German inflation low means imposing harsh deflation on the European periphery, as it tries to get costs and prices back in line.... [G]iven what we know about price adjustment during persistent large output gaps (PLOGs), the reality is that keeping overall eurozone inflation at 2 percent would probably mean at best very slow deflation in the periphery — because prices really don’t want to fall — but a prolonged period of very high unemployment.
The point, as Munchau says, is that a monetary union of imperfectly integrated economies really needed a higher inflation target than the United States; having what amounts to a low-inflation target, and a central bank that’s always looking for reasons to worry about inflation, is really destructive.
