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Opting out of the Great Inflation: German monetary policy after the break down of Bretton Woods

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Author Info
Andreas Beyer () (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.)
Vitor Gaspar () (Banco de Portugal, Special Adviser, Av. Almirante Reis, 71 – 8°, 1150-012 Lisboa, Portugal.)
Christina Gerberding () (Deutsche Bundesbank, Monetary Policy and Analysis Division, Wilhelm-Epstein-Strasse 14, D-60431 Frankfurt am Main, Germany.)
Otmar Issing () (Centre for Financial Studies, Goethe University Frankfurt, Mertonstrasse 17-25, D-60325 Frankfurt am Main, Germany.)

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Abstract

During the turbulent 1970s and 1980s the Bundesbank established an outstanding reputation in the world of central banking. Germany achieved a high degree of domestic stability and provided safe haven for investors in times of turmoil in the international financial system. Eventually the Bundesbank provided the role model for the European Central Bank. Hence, we examine an episode of lasting importance in European monetary history. The purpose of this paper is to highlight how the Bundesbank monetary policy strategy contributed to this success. We analyze the strategy as it was conceived, communicated and refined by the Bundesbank itself. We propose a theoretical framework (following Söderström, 2005) where monetary targeting is interpreted, first and foremost, as a commitment device. In our setting, a monetary target helps anchoring inflation and inflation expectations. We derive an interest rate rule and show empirically that it approximates the way the Bundesbank conducted monetary policy over the period 1975-1998. We compare the Bundesbank's monetary policy rule with those of the FED and of the Bank of England. We find that the Bundesbank's policy reaction function was characterized by strong persistence of policy rates as well as a strong response to deviations of inflation from target and to the activity growth gap. In contrast, the response to the level of the output gap was not significant. In our empirical analysis we use real-time data, as available to policy-makers at the time. JEL Classification: E31, E32, E41, E52, E58.

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Paper provided by European Central Bank in its series Working Paper Series with number 1020.

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Length: 73 pages
Date of creation: Mar 2009
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Handle: RePEc:ecb:ecbwps:20091020

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Related research
Keywords: Inflation; Price Stability; Monetary Policy; Monetary Targeting; Policy Rules.;

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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. Jens Eisenschmidt & Astrid Hirsch & Tobias Linzert, 2009. "Bidding behaviour in the ECB's main refinancing operations during the financial crisis," Working Paper Series 1052, European Central Bank. [Downloadable!]
  2. Thomas Y. Mathä & Olivier Pierrard, 2009. "Search in the Product Market and the Real Business Cycle," Working Paper Series 1036, European Central Bank. [Downloadable!]
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  3. Luca Agnello & Ricardo M. Sousa, 2009. "The determinants of public deficit volatility," Working Paper Series 1042, European Central Bank. [Downloadable!]
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  4. Matthieu Darracq Pariès & Stéphane Moyen, 2009. "Monetary Policy and Inflationary Shocks Under Imperfect Credibility," Working Paper Series 1065, European Central Bank. [Downloadable!]
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