Why Inflation Rose and Fell: Policymakers' Beliefs and US Postwar Stabilization Policy
AbstractThis paper provides an explanation for the run-up of U.S. inflation in the 1960s and 1970s and the sharp disinflation in the early 1980s, which standard macroeconomic models have difficulties in addressing. I present a model in which rational policymakers learn about the behavior of the economy in real time and set stabilization policy optimally, conditional on their current beliefs. The steady state associated with the self-confirming equilibrium of the model is characterized by low inflation. However, prolonged episodes of high inflation ending with rapid disinflations can occur when policymakers underestimate both the natural rate of unemployment and the persistence of inflation in the Phillips curve. I estimate the model using likelihood methods. The estimation results show that the model accounts remarkably well for the evolution of policymakers' beliefs, stabilization policy and the postwar behavior of inflation and unemployment in the United States.
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Bibliographic InfoPaper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 11147.
Date of creation: Feb 2005
Date of revision:
Publication status: published as Primiceri, Giorgio. “Why Inflation Rose and Fell: Policymakers’ Beliefs and US Postwar Stabilization Policy.” The Quarterly Journal of Economics 121 (August 2006): 867-901.
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Find related papers by JEL classification:
- E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
- E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
- E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
This paper has been announced in the following NEP Reports:
- NEP-ALL-2005-02-27 (All new papers)
- NEP-MAC-2005-02-27 (Macroeconomics)
- NEP-MON-2005-02-27 (Monetary Economics)
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- Timothy Cogley & Thomas J. Sargent, 2005.
"Drift and Volatilities: Monetary Policies and Outcomes in the Post WWII U.S,"
Review of Economic Dynamics,
Elsevier for the Society for Economic Dynamics, vol. 8(2), pages 262-302, April.
- Timothy Cogley & Thomas J. Sargent, 2003. "Drifts and volatilities: monetary policies and outcomes in the post WWII U.S," Working Paper 2003-25, Federal Reserve Bank of Atlanta.
- Timothy Cogley & Thomas Sargent, . "Drifts and Volatilities: Monetary Policies and Outcomes in the Post WWII US," Working Papers 2133503, Department of Economics, W. P. Carey School of Business, Arizona State University.
- Athanasios Orphanides, 2002.
"Monetary-Policy Rules and the Great Inflation,"
American Economic Review,
American Economic Association, vol. 92(2), pages 115-120, May.
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