Financial Origins of the Rise and Fall of American Inflation

UNIVERSITY OF TECHNOLOGY SYDNEY
Finance Department
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under the law known as Regulation Q, and that its fall was due to the removal of these ceilings once the law was repealed.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.

Download paper

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.

Seminar protocols:

  • The webinar will run for 45 minutes, followed by a 15 minute Q&A session.
  • There will be a moderator for each seminar event, who will facilitate communication and resolve any technical issues.
  • Participants can use the chat facility or raise their had to ask questions during the presentation. The moderator will then alert the speaker at the appropriate time and either ask the questions raised or unmute the participant so they can ask the question directly to the presenter.

Co-ordinator: Harry Scheule

Enquiries: Duncan Ford

Back to Finance seminars
Acknowledgement of Country

UTS acknowledges the Gadigal people of the Eora Nation, the Boorooberongal people of the Dharug Nation, the Bidiagal people and the Gamaygal people, upon whose ancestral lands our university stands. We would also like to pay respect to the Elders both past and present, acknowledging them as the traditional custodians of knowledge for these lands.