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Expectations, Monetary Policy, and Labor Markets: Lessons from the Great Depression

  • Christopher P. Reicher

This paper estimates a series of shocks to hit the US economy during the Great Depression, using a New Keynesian model with unemployment and bargaining frictions. Shocks to long-run inflation expectations appear to account for much of the cyclical behavior of employment, while an increase in labor’s bargaining power also played an important role in deepening and lengthening the Depression. Government spending played very little role during the Hoover Administration and New Deal, until the rise in military spending effectively brought an end to the Depression in 1941. With the economy at or near the zero interest rate bound, interest rates and monetary aggregates provided a misleading indicator as to the true stance of inflation expectations; in fact, conditions were deflationary all throughout the 1930s in spite of high money growth and low interest rates. The experience of the 1930s offers lessons to modern policymakers who find themselves in a similar situation

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Paper provided by Kiel Institute for the World Economy in its series Kiel Working Papers with number 1543.

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Length: 55 pages
Date of creation: Aug 2009
Date of revision:
Handle: RePEc:kie:kieliw:1543
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