Inflationary Momentum and Stabilization Policy: A US Perspective

The inflationary experience of the industrial countries in recent years is explained in terms of institutional and structural changes promoting wage-price momentum. Developments such as the increasing extent of indexation of incomes and flexibility of exchange rates tend to result in downward rigidity of the rate of change of prices and wages. In the extreme, this is seen to lead to stagflation as the normal economic condition, and to the ineffectiveness of exchange rate changes for adjusting external imbalances. While output and employment continue to respond to the application of monetary and fiscal policies, the wage-price mechanism lies increasingly beyond the reach of these conventional tools. It is argued that the sufficiency of stabilization policy is restored, as a medium-term tendency, to the extent that the inflation-sustaining links between wage and price changes can be systematically restrained, such as could follow from a permanent tax-based incomes policy.