Explaining the Pain

Attack: The Case For Hard Money
Jeffrey Garten says central bankers must stop worrying about growth, and throw every weapon in their arsenal at inflation.

The most difficult decisions for government officials occur when all policy alternatives have unwanted and even painful repercussions. That's the situation facing finance ministers and central bankers now.

The dilemma is clear: should they give priority to fighting inflation or should they focus on avoiding deflation?

In the first category the U.S. Fed has signaled its concern about soaring food and fuel prices, reinforced by a weakening dollar and higher-priced imports, by saying that it is very unlikely to lower interest rates again. The European Central Bank has calculated inflation at 4 percent, the highest in a decade. A weighted average of inflation in the twenty largest emerging markets has increased to 6.9 percent this year, about 66 percent higher than a year ago.

On the other hand, the global financial system is exceptionally weak and the growth of global trade is decelerating. In America and parts of Europe, housing prices continue to fall and consumer spending is declining. Unemployment in the OECD area is expected to increase by 3 million people over the 2008 to 2009 period, a 9 percent increase over 2007. The Bank for International Settlements believes the global economy could be on the brink of a serious recession.

My vote is to attack inflation first, foremost and decisively. Ultimately uncontrolled price increases will fall hardest on the poor and vulnerable, and soaring prices will only create a situation in which the ultimate medicine will be even more painful that it would be today. Moreover, it is crucial to head off inflation before the expectation of price increases becomes a self-fulfilling prophecy for companies pricing their products and workers pushing for raises.