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Two out of three

You can’t target all three of them:

Fears over rampant inflation in Britain have sent sterling down almost 10pc against the dollar this year, to $1.22.

Ms Mann, who last week split with the majority of MPC members to back a bigger rise in rates than the 0.25 percentage point increase announced by the Bank, said: “I voted for a 0.5 percentage point increase at the last MPC meeting.

“In my view, a more robust policy move, based on both domestic conjuncture and commensurate with the global factor, reduces the risk that domestic inflation already embedded is further boosted by inflation imported via a sterling depreciation.”

The comments are an unusual intervention, with policymakers typically insisting that they do not target the exchange rate.

You can target any two of the three – FX, interest or inflation. But not all three at the same time. This is why, with a fixed FX rate, you can;t control both inflation and interest rates. Etc, with perm any two.

8 thoughts on “Two out of three”

  1. This economics illiterate wonders whether it is correct to call exchange-rate-driven price increases inflation. Are all price rises inflation?

  2. Ths ueual thought is yes. FX driven price changes certainly contribute to changes in the general price level ,so, yes.

  3. The Meissen Bison

    with a fixed FX rate, you can’t control both inflation and interest rates

    That fixed exchange rate doesn’t apply in the UK and BoE intervention to support the £ is an open invitation to short the £ so it’s always a waste of money and always ends badly.

  4. Central Bank intervention is usually taken to mean direct buying/selling of the currency via the FX markets, but not exclusively so.

    Anyway, it seems likely (to me at any rate) that the primary reason why inflation (the general price level) has been so low over the last 20+ years, has had very little to do with central bank activity. The Amazon/China Effect has basically swamped inflation.

    The result is that any rise in base rates, across any number of countries might be almost entirely ineffective. This would badly erode confidence in CBs’ ability to carry out their primary task, so they’re being very cautious indeed, just in case. With the added hope of ignore it and it’ll just go away.

  5. It is interesting that the pound is falling against the dollar. Given that the real inflation rate over here is somewhere north of 10%. Joe gives us happy talk, but no action to fix the problem.

  6. How come the US is raising rates while the dollar rises?

    Don’t unlimited central bank currency swap lines essentially limit FX risk anyway?

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