Working Paper: NBER ID: w2701
Authors: jeffrey a miron
Abstract: A standard assumption in the literature on optimal monetary policy is that the proper goal of policy is the reduction of the variation in output around its natural rate level. The stabilization of output has not always been accepted as the primary goal of policy, however. This paper argues that neither the founders of the Federal Reserve System nor the central bankers in charge during the first twenty-five years of the Fed's existence viewed the elimination of short term movements in output as an important objective for policy. Instead, the framers of the Federal Reserve System and the early practitioners of central banking in the United States apparently thought that "stabilization" of asset markets was the crucial task for the monetary authority. The paper compares the performance of the United States economy during the twenty-five year periods before and after 1914 and shows that after the founding of the Fed the variance of both the rate of growth of output and of the inflation rate increased significantly, while the average rate of growth of output fell, and real stock prices became substantially more volatile. The remainder of the paper then suggests that the deterioration in the performance of the economy after 1914 can be attributed directly to the actions of the Fed.
Keywords: Federal Reserve; monetary policy; economic volatility
JEL Codes: E52; E58
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Founding of the Federal Reserve (E58) | Increased variance of output growth (E39) |
| Founding of the Federal Reserve (E58) | Decreased average output growth (O49) |
| Founding of the Federal Reserve (E58) | Increased volatility of real stock prices (G17) |
| Founding of the Federal Reserve (E58) | Increased persistence of nominal interest rates (E43) |