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Oil Price Shocks: Can They Account for the Stagflation in the 1970s?

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  • Ben Hunt
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    Abstract

    Using a variant of the IMF's Global Economy Model (GEM), featuring energy as both an intermediate input into production and a final consumption good, this paper examines the macroeconomic implications of large increases in the price of energy. Within a fully optimizing framework with nominal and real rigidities arising from costly adjustment, large increases in energy prices can generate an inflation response similar to that seen in the 1970s if the monetary authority misperceives the economy's supply capacity and workers resist the erosion in their real consumption wages resulting from the price increase. In the absence of either of these two responses, the model suggests that energy price shocks cannot generate the type of stagflation witnessed in the 1970s. Further, even allowing for these two effects, the results do not suggest that the increase in the price of oil in late 1973 and early 1974 can fully explain the extent of the slowing in real activity or the magnitude of the acceleration in inflation experienced in the United States in 1974 and 1975.

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    Bibliographic Info

    Paper provided by International Monetary Fund in its series IMF Working Papers with number 05/215.

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    Length: 43
    Date of creation: 01 Nov 2005
    Date of revision:
    Handle: RePEc:imf:imfwpa:05/215

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    Related research

    Keywords: Monetary policy; Oil crisis; Economic models;

    This paper has been announced in the following NEP Reports:

    References

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    1. Peter Isard & Ben Hunt & Douglas Laxton, 2001. "The Macroeconomic Effects of Higher Oil Prices," IMF Working Papers 01/14, International Monetary Fund.
    2. Burstein, Ariel Tomas & Neves, Joao C & Rebelo, Sérgio, 2001. "Distribution Costs and Real Exchange Rate Dynamics During Exchange-Rate-Based Stabilization," CEPR Discussion Papers 2944, C.E.P.R. Discussion Papers.
    3. Andrew Atkeson & Patrick J. Kehoe, 1995. "Putty-clay capital and energy," Working Papers 548, Federal Reserve Bank of Minneapolis.
    4. Athanasios Orphanides, 2000. "Activist stabilization policy and inflation: the Taylor rule in the 1970s," Finance and Economics Discussion Series 2000-13, Board of Governors of the Federal Reserve System (U.S.).
    5. Giancarlo CORSETTI & Luca DEDOLA, 2003. "Macroeconomics of International Price Discrimination," Economics Working Papers ECO2003/20, European University Institute.
    6. Laxton, Douglas & Pesenti, Paolo, 2003. "Monetary rules for small, open, emerging economies," Journal of Monetary Economics, Elsevier, vol. 50(5), pages 1109-1146, July.
    7. Backus, David K. & Crucini, Mario J., 2000. "Oil prices and the terms of trade," Journal of International Economics, Elsevier, vol. 50(1), pages 185-213, February.
    8. Kim, In-Moo & Loungani, Prakash, 1992. "The role of energy in real business cycle models," Journal of Monetary Economics, Elsevier, vol. 29(2), pages 173-189, April.
    9. Armstrong, John & Black, Richard & Laxton, Douglas & Rose, David, 1998. "A robust method for simulating forward-looking models," Journal of Economic Dynamics and Control, Elsevier, vol. 22(4), pages 489-501, April.
    10. Juillard, Michel & Laxton, Douglas & McAdam, Peter & Pioro, Hope, 1998. "An algorithm competition: First-order iterations versus Newton-based techniques," Journal of Economic Dynamics and Control, Elsevier, vol. 22(8-9), pages 1291-1318, August.
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    Cited by:
    1. Douglas Laxton & Andrew Berg & Philippe D Karam, 2006. "A Practical Model-Based Approach to Monetary Policy Analysis--Overview," IMF Working Papers 06/80, International Monetary Fund.
    2. Shekhar Aiyar & Ivan Tchakarov, 2008. "Much Ado About Nothing? Estimating the Impact of a U.S. Slowdown on Thai Growth," IMF Working Papers 08/140, International Monetary Fund.

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