William Watson: Central bankers should read Paul Volcker on taking down inflation — via fpcomment
U.S. inflation rate
was 5.7 per cent. In the next three years it was 6.5, 7.6 and 11.3 per cent. The month Volcker took over it was running at 11.8 per cent. Ten days into the job he persuaded the Fed board to raise the policyhalf a point to a record 10.5 per cent. Next month they raised it another half point. But the markets weren’t buying it. The board vote had been 4-3. The markets figured 11 per cent was as far as it would go, and that wasn’t far enough. After all, inflation was heading for 12 per cent.
Volcker was not a thorough-going monetarist. He writes that he thought of himself as a “‘practical monetarist’ … in contrast with the more extreme and mechanistic monetarism that Milton Friedman had advocated.” But he understood that targeting the money supply meant letting interest rates go where they may. In a Fed oral historyin 2008 he was asked whether administration officials he told about the new procedures had asked how high interest rates would go.
Where they went, some of them, was over 20 per cent. “I suppose if some Delphic oracle had whispered in my ear that our policy would result in interest rates , I might have packed my bags and headed home. But that option wasn’t open. We had a message to deliver, a message to the public and to ourselves.”
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