As a strong proponent for a higher inflation target I should address this column by Paul Volker in a full and complete manner. For right now though I want to say that I am making a case that I believe is substantially different from that the case Volker is arguing against.

He says

Rather, the danger is that if, in desperation, we turn to deliberately seeking inflation to solve real problems — our economic imbalances, sluggish productivity, and excessive leverage — we would soon find that a little inflation doesn’t work. Then the instinct will be to do a little more — a seemingly temporary and “reasonable” 4 percent becomes 5, and then 6 and so on.

My point is not simply – as seems to be Ken Rogoff’s – that a jolt of inflation inflation would be good for the economy right now – though I believe it would be.

My case is that 2% inflation is a fundamentally bad idea. I argue that 4% inflation is not merely “OK” it is preferable. It is preferable because even in normal times it produces higher nominal interest rates. Higher nominal interest rates in turn give the Fed more leverage under traditional monetary policy.

When you consider the long run costs of inflation you have to consider that there will be unanticipated events. Some of those events will be deflationary. If you don’t have an adequate buffer the Federal Funds rate will bump up against zero.

When you look at the grand scheme, I think it is precisely the problem of government failure that should lead us to prefer a moderate level of inflation. We simply do not have the tools to ensure that NGDP, the price level or whatever target you want is always hit.

We need room to miss. 2% gives us very little margin for error.