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Aggregate Price Shocks and Financial Instability: A Historical Analysis

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Author Info
Michael D. Bordo
Michael J. Dueker
David C. Wheelock

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Abstract

This article presents evidence on the relationship between price and financial stability. We construct an annual index of financial conditions for the United States, 1790--1997, and estimate the effect of aggregate price shocks on the index using a dynamic ordered probit model. We find that price-level shocks contributed to financial instability during 1790--1933 and that inflation rate shocks contributed to financial instability during 1980--97. The size of the aggregate price shock needed to alter financial conditions depends on the institutional environment, but we conclude that a monetary policy focused on price stability would contribute to financial stability. Copyright 2002, Oxford University Press.

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Publisher Info
Article provided by Oxford University Press in its journal Economic Inquiry.

Volume (Year): 40 (2002)
Issue (Month): 4 (October)
Pages: 521-538
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Handle: RePEc:oup:ecinqu:v:40:y:2002:i:4:p:521-538

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Frederic S. Mishkin, 1991. "Asymmetric Information and Financial Crises: A Historical Perspective," NBER Working Papers 3400, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  2. Graciela L. Kaminsky & Carmen M. Reinhart, 1996. "The twin crises: the causes of banking and balance-of-payments problems," International Finance Discussion Papers 544, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
    Other versions:
  3. Charles W. Calomiris & David C. Wheelock, 1997. "Was the Great Depression a Watershed for American Monetary Policy?," NBER Working Papers 5963, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  4. Lucas, Robert E, Jr, 1973. "Some International Evidence on Output-Inflation Tradeoffs," American Economic Review, American Economic Association, vol. 63(3), pages 326-34, June.
  5. Barry Eichengreen and Richard S. Grossman., 1994. "Debt Deflation and Financial Instability: Two Historical Explorations," Economics Working Papers 94-231, University of California at Berkeley. [Downloadable!]
  6. Dueker, Michael, 1999. "Conditional Heteroscedasticity in Qualitative Response Models of Time Series: A Gibbs-Sampling Approach to the Bank Prime Rate," Journal of Business & Economic Statistics, American Statistical Association, vol. 17(4), pages 466-72, October.
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  7. Bordo, Michael D. & Schwartz, Anna J., 1999. "Monetary policy regimes and economic performance: The historical record," Handbook of Macroeconomics, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 3, pages 149-234 Elsevier. [Downloadable!] (restricted)
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  8. Barsky, Robert B., 1987. "The Fisher hypothesis and the forecastability and persistence of inflation," Journal of Monetary Economics, Elsevier, vol. 19(1), pages 3-24, January. [Downloadable!] (restricted)
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  9. Gray, Jo Anna & Spencer, David E, 1990. "Price Prediction Errors and Real Activity: A Reassessment," Economic Inquiry, Oxford University Press, vol. 28(4), pages 658-81, October.
  10. Michael D. Bordo & Michael J. Dueker & David C. Wheelock, 2000. "Aggregate Price Shocks and Financial Instability: An Historical Analysis," NBER Working Papers 7652, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  11. Gerald P. Dwyer, Jr. & R. Alton Gilbert, 1989. "Bank runs and private remedies," Review, Federal Reserve Bank of St. Louis, issue May, pages 43-61. [Downloadable!]
  12. Weber, Ernst Juerg, 1986. "The causes of bank failures: deflationary spells," Economics Letters, Elsevier, vol. 20(4), pages 359-362. [Downloadable!] (restricted)
  13. Chib, Siddhartha, 1996. "Calculating posterior distributions and modal estimates in Markov mixture models," Journal of Econometrics, Elsevier, vol. 75(1), pages 79-97, November. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Michael D. Bordo & Michael J. Dueker & David C. Wheelock, 2001. "Aggregate price shocks and financial instability: a historical analysis," Working Papers 2000-005, Federal Reserve Bank of St. Louis. [Downloadable!]
    Other versions:
  2. Carolyn Currie, 2003. "Towards a General Theory of Financial Regulation: Predicting, Measuring and Preventing Financial Crises," Working Paper Series 132, School of Finance and Economics, University of Technology, Sydney. [Downloadable!]
    Other versions:
  3. Jan Willem van den End, 2006. "Indicator and boundaries of financial stability," DNB Working Papers 097, Netherlands Central Bank, Research Department. [Downloadable!]
  4. Gertjan W. Vlieghe, . "Indicators of fragility in the UK corporate sector," Bank of England working papers 146, Bank of England. [Downloadable!]
  5. Mark Illing & Ying Liu, 2003. "An Index of Financial Stress for Canada," Working Papers 03-14, Bank of Canada. [Downloadable!]
  6. Michael Bordo, 2000. "Sound Money and Sound Financial Policy," Journal of Financial Services Research, Springer, vol. 18(2), pages 129-155, December. [Downloadable!] (restricted)
  7. Eric Tymoigne, 2006. "Asset Prices, Financial Fragility, and Central Banking," Economics Working Paper Archive wp_456, Levy Economics Institute, The. [Downloadable!]
  8. Michael D. Bordo & David C. Wheelock, 2004. "Monetary Policy and Asset Prices: A Look Back at Past U.S. Stock Market Booms," NBER Working Papers 10704, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
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