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Three great American disinflations

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  • Michael Bordo
  • Christopher Erceg
  • Andrew Levin
  • Ryan Michaels

Abstract

This paper analyzes the role of transparency and credibility in accounting for the widely divergent macroeconomic effects of three episodes of deliberate monetary contraction: the post-Civil War deflation, the post-WWI deflation, and the Volcker disinflation. Using a dynamic general equilibrium model in which private agents use optimal filtering to infer the central bank's nominal anchor, we demonstrate that the salient features of these three historical episodes can be explained by differences in the design and transparency of monetary policy, even without any time variation in economic structure or model parameters. For a policy regime with relatively high credibility, our analysis highlights the benefits of a gradualist approach (as in the 1870s) rather than a sudden change in policy (as in 1920-21). In contrast, for a policy institution with relatively low credibility (such as the Federal Reserve in late 1980), an aggressive policy stance can play an important signalling role by making the policy shift more evident to private agents.

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Bibliographic Info

Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 898.

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Date of creation: 2007
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Handle: RePEc:fip:fedgif:898

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Keywords: Monetary policy - United States ; Deflation (Finance);

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References

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  1. Olivier J. Blanchard, 1984. "The Lucas Critique and the Volcker Deflation," NBER Working Papers 1326, National Bureau of Economic Research, Inc.
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Citations

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Cited by:
  1. Alan S. Blinder & Michael Ehrmann & Marcel Fratzscher & Jakob de Haan & David-Jan Jansen, 2008. "Central Bank Communication and Monetary Policy: A Survey of Theory and Evidence," DNB Working Papers 170, Netherlands Central Bank, Research Department.
  2. Elmar Mertens, 2008. "Managing Beliefs about Monetary Policy under Discretion?," Working Papers 08.02, Swiss National Bank, Study Center Gerzensee.
  3. Christopher Reicher, 2009. "What Can a New Keynesian Labor Matching Model Match?," Kiel Working Papers 1496, Kiel Institute for the World Economy.
  4. Michael D. Bordo & Joseph G. Haubrich, 2009. "Credit crises, money, and contractions: A historical view," Working Paper 0908, Federal Reserve Bank of Cleveland.
  5. Wolfgang Pollan, . "Incomes Policies, Expectations and the NAIRU," WIFO Working Papers 433, WIFO.
  6. Michael D. Bordo & David C. Wheelock, 2007. "Stock market booms and monetary policy in the twentieth century," Review, Federal Reserve Bank of St. Louis, issue Mar, pages 91-122.

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