Financial Origins of the Rise and Fall of American Inflation
UNIVERSITY OF TECHNOLOGY SYDNEY
Research Seminars in Finance
Topic: The Financial Origins of the Rise and Fall of American Inflation
Speaker: Itamar Drechsler, University of Pennsylvania
Abstract: We propose and test a new explanation for the rise and fall of the Great Inflation, a defining event in macroeconomics. We argue that its rise was due to the imposition of binding deposit rate ceilings under the law known as Regulation Q, and that its fall was due to the removal of these ceilings once the law was repealed. Deposits were the dominant form of saving at the time, hence Regulation Q suppressed the return to saving. This drove up aggregate demand, which pushed up inflation and further lowered the real return to saving, setting off an inflation spiral. The repeal of Regulation Q broke the spiral by sending deposit rates sharply higher. We document that the rise and fall of the Great Inflation lines up closely with the imposition and repeal of Regulation Q and the enormous changes in deposit rates and quantities it produced. We further test this explanation in the cross section using detailed data on local deposit markets and inflation. By exploiting four different sources of geographic variation, we show that the degree to which Regulation Q was binding has a large impact on local inflation, consistent with the hypothesis that Regulation Q explains the observed variation in aggregate inflation. We conclude that in the presence of financial frictions the Fed may be unable to control inflation regardless of its policy rule.
Moderator: Diego Puente Moncayo, University of Technology Sydney
Date: Wednesday, 25th November 2020
Time: 9-10 am (Australian Eastern Daylight Time)
Venue: This is on online Zoom webinar.
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- The webinar will run for 45 minutes, followed by a 15 minute Q&A session.
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Co-ordinator: Harry Scheule
Enquiries: Duncan Ford