The Incredible Volcker Disinflation

Marvin Goodfriend () and Robert King ()

No WP2005-007, Boston University - Department of Economics - Macroeconomics Working Papers Series from Boston University - Department of Economics

Abstract: The reduction in inflation that occurred in the early 1980s, when the Federal Reserve was headed by Paul Volcker, is arguably the most widely discussed and visible macroeconomic event of the last 50 years of U.S. history. Inflation had been dramatically rising, but under Volcker, the Fed first contained and then reversed this process. Using a simple modern macroeconomic model, we argue that the real effects of the Volcker disinflation were mainly due to its imperfect credibility. In our view, the observed upward volatility and subsequent stubborn elevation of long-term interest rates during the disinflation are key indicators of its imperfect credibility. Studying transcripts of the Federal Open Market Committee recently released to the public, we find — to our surprise — that Volcker and other FOMC members likewise regarded the long-term interest rates as indicative of inflation expectations and of the credibility of their disinflationary policy. Drawing from the transcripts and other contemporary sources, we consider the interplay of monetary targets, operating procedures, and credibility during the Volcker disinflation.

Keywords: credibility; disinflation; monetary policy; Volcker (search for similar items in EconPapers)
JEL-codes: E3 E4 E5 N1 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
Date: Written
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Forthcoming in International Economic Review

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