Mumbai: Paul Volcker earned his status as one of the greatest central bankers ever because of his successful battle against inflation in the late 1970s and early 1980s. So it is apt that he should be in India at a time when resurgent inflation is the leading public policy issue of the day.
The former chairman of the US Federal Reserve lived up to his reputation as an inflation hawk, as he delivered a stern warning at a dinner hosted by the Reserve Bank of India (RBI) on Thursday: there should be zero tolerance of inflation.
“I am amused when I see modern central banks targeting inflation. They should target price stability,” he said.
When he was an undergraduate student at Princeton University in the 1940s, said Volcker, the debate in the economics faculty there was whether wages should be allowed to rise while keeping prices stable or whether wages should be kept stable allowing prices to drop. Tolerating any degree of inflation was not on the agenda.
Volcker was appointed as chairman of the US Fed by president Jimmy Carter in 1979, at a time when deficits and high oil prices had pushed inflation in the developed world into double digits. He pushed interest rates to dizzying heights and crushed inflation, though the US had to suffer two sharp recessions in the early 1980s as a result of this. But he helped create the base for the subsequent rise in US productivity and growth.
While refusing to make any specific comments on India—other than saying that the economic growth here and in China is one of the most significant developments of our times—Volcker warned the audience, which included senior RBI officials, that inflation can feed on itself. You tolerate a bit of it, then another bit, and then another, till it has grown to a level that calls for drastic action.
Volcker also asked why a 1% rate of inflation was acceptable but not a 1% rate of deflation. “I often hear it said that Japan went through a long recession in the 1990s because prices were dropping, and consumers kept postponing purchases. I don’t think Japanese housewives stopped buying because prices were dropping by 1% every year.
The real problem was that asset prices had collapsed and the financial system in Japan was heavily dependent of these asset prices,” he said, puncturing the received wisdom on Japan’s recession.
His wise observations were punctuated by acerbic comments as well.
“Central bankers these days quote the inflation number that is the lowest and most convenient to mention. I wish I had the inventiveness of Alan Greenspan,” he said, taking a good-natured dig at his successor as Fed chairman, even as chuckles rolled through an audience comprising senior bankers and economists.
There was another round of laughter as RBI governor Y.V. Reddy presented Volcker with a collection of old coins and a few books. One of the books was Complications, a collection of articles in the New Yorker by Atul Gawande.
“Another central banker told me that it would be an apt name for a book on central banking,” joked Reddy, who is in the midst of his own battle against inflation.
Certitudes and complications: the job of the central bankers fluctuates between these two attitudinal extremes.