"But once the shock dissipates, the economy will gradually return to its equilibrium." We cannot expect this, even if the price of the original "shocking" price returns to its former value. Not all prices that have moved up can as easily move back down. To return relative prices to pre-shock "equilibrium" requires an increase in the average rice level: inflation. If pre-shock equilibrium inflation was on target, reestablishing a renewed equilibrium will require a period of inflation rising above target and then falling back down to target. That is the central bank will have to be "flexible" in its average inflation target, to have a Flexible Average Inflation Target -- FAIT.
Yes - agreed on that it is relative prices that 'theoretically' should return to the same level. And it may require interesting dynamics. Of course, we could also be jolted into a new equilibrium - as of today, I would be surprised if interest rates would drop back down to zero in the future.
Great point Nominal News. This brings up discussions of complacency. As an individual, organization, or government…we must never become complacent.
We must always be on alert for brewing challenges, even if they present no immediate threat to the status quo.
This is easier said than done.
"But once the shock dissipates, the economy will gradually return to its equilibrium." We cannot expect this, even if the price of the original "shocking" price returns to its former value. Not all prices that have moved up can as easily move back down. To return relative prices to pre-shock "equilibrium" requires an increase in the average rice level: inflation. If pre-shock equilibrium inflation was on target, reestablishing a renewed equilibrium will require a period of inflation rising above target and then falling back down to target. That is the central bank will have to be "flexible" in its average inflation target, to have a Flexible Average Inflation Target -- FAIT.
See:
https://thomaslhutcheson.substack.com/p/framework-for-monetary-policy-2
https://thomaslhutcheson.substack.com/p/framework-for-monetary-policy-1
https://thomaslhutcheson.substack.com/p/arrrrr
https://thomaslhutcheson.substack.com/p/the-lessons-of-pandemic-inflation
https://thomaslhutcheson.substack.com/p/fighting-over-fait
Yes - agreed on that it is relative prices that 'theoretically' should return to the same level. And it may require interesting dynamics. Of course, we could also be jolted into a new equilibrium - as of today, I would be surprised if interest rates would drop back down to zero in the future.
Agree, particularly with the fiscal deficit at the level it is.