Inflation Targeting - History and Utilizing Countries

History and Utilizing Countries

Early proposals of monetary systems targeting the price level or the inflation rate, rather than the exchange rate, followed the general crisis of the gold standard after World War I. Irving Fisher proposed a "compensated dollar" system in which the gold content in paper money would vary with the price of goods in terms of gold, so that the price level in terms of paper money would stay fixed. Fisher's proposal was a first attempt to target prices while retaining the automatic functioning of the gold standard. In his Tract on Monetary Reform (1923), John Maynard Keynes advocated what we would now call an inflation targeting scheme. In the context of sudden inflations and deflations in the international economy right after World War I, Keynes recommended a policy of exchange rate flexibility, appreciating the currency as a response to international inflation and depreciating it when there are international deflationary forces, so that internal prices remained more or less stable.

Interest in inflation targeting schemes waned during the Bretton Woods system (1944–1971), as they are normally inconsistent with exchange rate pegs such as those prevailing during three decades after World War II. Inflation targeting was pioneered in New Zealand in 1990, and is now also in use by the central banks in United Kingdom (Bank of England), Canada (Bank of Canada), Australia (Reserve Bank of Australia), South Korea (Bank of Korea), Egypt, South Africa (South African Reserve Bank), Iceland (Central Bank of Iceland) and Brazil (Brazilian Central Bank), among other countries, and there is some empirical evidence that it does what its advocates claim.