Department of Economics and Business Economics

Do We Really Know that U.S. Monetary Policy was Destabilizing in the 1970s?

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  • Qazi Haque, University of Western Australia
  • ,
  • Nicolas Groshenny, University of Adelaide
  • ,
  • Mark Weder
The paper re-examines whether the Federal Reserve’s monetary policy was a source of instability during the Great Inflation by estimating a sticky-price model with positive trend inflation, commodity price shocks and sluggish real wages. Our estimation provides empirical evidence for substantial wage rigidity and finds that the Federal Reserve responded aggressively to inflation but negligibly to the output gap. In the presence of non-trivial real imperfections and well-identified commodity price-shocks, U.S. data prefers a determinate version of the New Keynesian model: monetary policy-induced indeterminacy and sunspots were not causes of macroeconomic instability during the pre-Volcker era. However, had the Federal Reserve in the Seventies followed the policy rule of the Volcker-Greenspan-Bernanke period, inflation volatility would have been lower by one third.
Original languageEnglish
Place of publicationAarhus
PublisherInstitut for Økonomi, Aarhus Universitet
Number of pages72
Publication statusPublished - Aug 2020
SeriesEconomics Working Papers
Number2020-10

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