Inflation Targeting Not Always Answer to Economic Stability, China Central Banker Says

Inflation targeting, albeit widely used by many central banks, is not always the best approach to ensure economic stability, a senior central banker of China said Thursday.

An explicit inflation rate target for the medium term is the top, and sometimes only, monetary-policy objective for major developed countries and many emerging economies. The rationale is that price stability is key to long-term economic growth.

Yin Yong, deputy governor of the People’s Bank of China (PBOC), disagreed.

“Just keeping prices stable is insufficient to ensure a steady economy. (Governments) must also prevent systemic financial risks such as an excessive buildup of debt, severe international payment imbalances and the bursting of asset bubbles in order to fend off financial crises,” Yin said at the 8th Caixin Summit in Beijing on Thursday.

Yin added that, despite a long history of central banks focusing on just adjusting interest rates to meet the inflation target, central banks have failed at times to prevent financial turmoil, such as the 2008 subprime crisis in the U.S. and the European sovereign debt crisis in 2012.

Furthermore, the consumer price index as a metric itself has become less accurate in gauging an economy’s health, Yin said. That is in part because swelling asset prices we see today have changed people’s consumption habits and other economic behavior in which people might spend less to attain the same level of welfare.

He said it is important for central banks to stay on top of the economy’s health through a macro-prudential policy framework. An approach adopted by China, this framework includes many metrics such as financial leverage, financial liabilities, liquidity, pricing, asset quality, risks of cross-border financing and credit policies, Yin said.

“The central bank is not going to intervene in asset prices, but the aim (of the framework) is to adjust the market, and thus prevent volatility in asset prices that could send shock waves across the economy,” he said.

Yin's comment came a day after the former president of the European Central Bank Jean-Claude Trichet said at the Caixin Summit that China could look into the possibility of setting an inflation target of 2%, which has been accepted by many advanced economies as a good inflation rate target, to better anchor expectations.

China’s CPI level stood at 1.5% over the first 10 months of 2017.

Contact reporter Fran Wang (fangwang@caixin.com) and Leng Cheng (chengleng@caixin.com)