how much we can trust these models now that the deviation of inflation from target is larger, owing to the magnitude of the energy price shock. as i have discussed on previous occasions, [ 20 ] one influence on this judgment is that state of the economy. the uk labour market is currently very tight by historical standards, with unemployment close to fifty - year lows. in parallel, the disruption to supply chains i have mentioned above has increased corporate pricing power. after all, for every producer that has difficulty sourcing its inputs, there is supplier one step earlier in the supply chain that faces strong demand and scope to raise prices. both a tight labour market and strong corporate pricing power are likely to increase the possibility that price and wage setting dynamics add to the intrinsic persistence in inflation. another influence on intrinsic inflation persistence is the magnitude of the shock itself. our standard models are linearised around the steady state defined by the inflation target. this approach is robust to small deviations from inflation target. but where deviations are substantial, non - linear effects may kick – and our standard models may underestimate inflation persistence. for example, now that inflation is substantially higher than target owing to the size of the energy price shock, firms may shift from a ‘ time - dependent approach ’ to pricing behaviour – say raising prices just once a year – to a ‘ state - dependent approach to pricing – say raising prices more frequently as energy costs pass different thresholds. such a change in behaviour will naturally change the dynamics of the inflation response, possibly creating additional intrinsic inflation persistence in ways that are not captured by our existing models. in principle, we can estimate new models incorporating such non - linearities. but, in practice – owing to the success of the inflation targeting regime in the past quarter of a century – we don ’ t have recent data from a period of high inflation. either we have to re - commission models from an earlier period ( when economic structures were very different on many dimensions ) or we have to rely partly on judgement as a complement to empirical analysis. in framing those judgements, we need to take a view what is driving intrinsic inflation persistence. in other words, we need to understand the structural economic behaviour underlying the propagation of the fundamental shock : we need a ‘ story ’ to explain what is driving economic outcomes, in particular price and wage behaviour. this brings me back to the energy price shock. the deterioration in the uk ’ s terms of trade owing to higher energy prices has adverse consequences for uk

term volatility in inflation is inevitable. as a result, monetary policy needs to be forward - looking, with policy actions calibrated to have the appropriate impact on inflation to steer inflation to target as the lags in transmission unwind. by implication, monetary policy should focus on the inflationary impact of a shock at the 12 to 24 month horizon ( or beyond ) : that is to say, on the more persistent implications of the shock. the inflationary implications of a shock that unwind of their own accord within the period defined by the lag in monetary policy transmission – what have been labelled the transitory inflation impact – are, by nature, of less relevance for monetary policy since there is little monetary policy can do to affect them. the case for monetary policy makers to focus on the persistent component of inflation is therefore clear. but implementing this approach in practice inevitably faces a number of practical problems. in real time, identifying the character and magnitude of the underlying shocks is difficult. the propagation of these shocks to consumer price inflation is uncertain and possibly changing through time, as is the transmission mechanism of monetary policy itself. the lags in monetary transmission are not just long and variable, but also not fully predictable. i address these issues in the remainder of this talk. nevertheless, the mpc ’ s focus on the persistent element of cpi inflation is consistent with both its remit – which emphasises that the inflation target ‘ holds at all times ’ – and with the medium - term orientation of its policy strategy – which emphasises that the committee seeks to reach the inflation target ‘ sustainably in the medium term. ’ underlying these two elements of the framework is recognition that the lags in monetary policy transmission ( and the uncertainties surrounding them ) rule out controlling inflation on a short - term month - to - month basis. attempts to control inflation at that higher frequency risk becoming a source of additional volatility, rather than a contribution to containing it. a well - designed policy will focus on the medium term and thereby emphasise the persistent components of inflation that threaten to cause deviations from the inflation target at that horizon. flavours of inflation persistence for data series that exhibit ‘ mean reversion ’ – in other words series that return to some average level after being shocked away from it – persistence is typically understood in terms of how long it takes to get back to that average level. given the mpc ’ s mandate, cpi inflation will revert to 2 % over time. but it