Incentive-Compatible Inflation Policy

8 Pages Posted: 26 Jan 2023 Last revised: 13 Mar 2023

See all articles by Brian D. Galle

Brian D. Galle

Georgetown University Law Center

Date Written: January 25, 2023

Abstract

In most highly-developed economies, governments have handed management of inflation entirely over to their central banks, and for good reason. With inflation largely beaten by central bankers for nearly five decades, there has been little effort to design, let alone implement, other legal institutions that could help slow sharp increases in the prices facing consumers. This dearth of good ideas is unfortunate, because it turns out that relying exclusively on central banks may not be ideal. While central banks today say that they are aiming for a "soft landing" in which inflation slows but major economies avoid significant additional damage, leading bankers also predict a significant likelihood of recession and widespread unemployment. There is reason to think that many central bankers will be prone to "overshoot" or fight inflation more aggressively than might be optimal for their economy. Central banks also deploy inflation-fighting tools that can damage government budgets, drive up taxes, or both.

In some sense the tools for fighting inflation (outside the doors of a central bank) are obvious. But we don't see governments pursuing those polices, for the obvious reasons that they would be hugely unpopular and have highly undesirable side-effects. But what if there were policies that could slow inflation while also potentially commanding some significant degree of political support?

This Essay attempts to sketch what such a policy would have to look like, and offers some concrete examples. The key insight is that driving people out of work and taking away their money are not the only ways to cool consumer demand. We can also reduce spending today by encouraging families to delay consumption to the future, such as by saving for retirement or buying insurance. We have to be careful, though, that incentives to encourage savings and insurance don't simply end up stimulating more present spending. I argue that retirement savings and health-insurance policies targeted at lower-earning families are especially likely to hit this sweet spot. For example, providing a government-funded bonus to Obamacare marketplace plans, or just making it much easier to sign up for and stay enrolled in those plans, would make families better off — usually a key element of any electorally viable policy — while also encouraging them to defer spending.

More generally, we should lower the "taxes" on our collective attention and patience that stop us from saving and insuring: no one likes hassles, so making our lives easier in that way would likely be popular. But unlike many other ways governments often find for scoring more votes, making people happy without giving them cash should be at worst inflation-neutral.

Keywords: inflation, fiscal policy, carrots and sticks, behavioral law and economics

JEL Classification: E03, H31, H40, H55

Suggested Citation

Galle, Brian D., Incentive-Compatible Inflation Policy (January 25, 2023). Cornell Law Review Online, Forthcoming, Available at SSRN: https://ssrn.com/abstract=4337856 or http://dx.doi.org/10.2139/ssrn.4337856

Brian D. Galle (Contact Author)

Georgetown University Law Center ( email )

600 New Jersey Avenue, NW
Washington, DC 20001
United States

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