In the 12 months ended November 2021, US CPI rose 6.8%, registering its sharpest increase since 1982, while inflation in the United Kingdom surged above market forecasts to a 10-year high of 5.1%. Other advanced economies experienced similar inflation highs over the same period. France’s year-over-year inflation rate jumped 3.4%, a 13-year high, and Germany’s 5.2% inflation rate marked a 30-year high. Japan remains an anomaly with a 0.6% year-over-year 2021 change in the CPI, although higher than in the recent past.
Inflation is political poison because it erodes the real purchasing power of the income of the vast majority. Voters will pressure governments to remedy inflation. What steps are governments likely to take?
Central banks will move to taper their financial asset purchases, but quantitative easing (QE) is not solely responsible for inflation. QE is simply shuffling bank reserves for government bonds on the balance sheets of banks. Worse yet, removing QE could raise the risk of liquidity crises.
Monetary policy alone cannot restore price stability. Raising interest rates is the traditional monetary tool, but central banks are constrained given today’s elevated debt levels: the G7’s finances cannot afford nominal interest rates above current inflation rates. To effectively tackle rapidly rising inflation, governments must also raise taxes to drain excess demand, just as advocated by MMT. Will legislators nimbly exercise their new responsibility to manage inflation with tax policy? Sustained inflation may be the expedient political path to diminish the real value of excessive public debt.