Opting Out of the Great Inflation: German Monetary Policy after the Break Down of Bretton Woods

73 Pages Posted: 19 Jan 2009

See all articles by Andreas Beyer

Andreas Beyer

European Central Bank (ECB)

Vitor Gaspar

European Commission

Otmar Issing

Center for Financial Studies (CFS)

Christina Gerberding

Deutsche Bundesbank

Multiple version iconThere are 2 versions of this paper

Date Written: March 2009

Abstract

During the turbulent 1970s and 1980s the Bundesbank established an outstanding reputation in the world of central banking. Germany achieved a high degree of domestic stability and provided safe haven for investors in times of turmoil in the international financial system. Eventually the Bundesbank provided the role model for the European Central Bank. Hence, we examine an episode of lasting importance in European monetary history. The purpose of this paper is to highlight how the Bundesbank monetary policy strategy contributed to this success. We analyze the strategy as it was conceived, communicated and refined by the Bundesbank itself. We propose a theoretical framework (following Soderstrom, 2005) where monetary targeting is interpreted, first and foremost, as a commitment device. In our setting, a monetary target helps anchoring inflation and inflation expectations. We derive an interest rate rule and show empirically that it approximates the way the Bundesbank conducted monetary policy over the period 1975-1998. We compare the Bundesbank's monetary policy rule with those of the FED and of the Bank of England. We find that the Bundesbank's policy reaction function was characterized by strong persistence of policy rates as well as a strong response to deviations of inflation from target and to the activity growth gap. In contrast, the response to the level of the output gap was not significant. In our empirical analysis we use real-time data, as available to policy-makers at the time.

Keywords: Inflation, Price Stability, Monetary Policy, Monetary Targeting, Policy Rules

JEL Classification: E31, E32, E41, E52, E58

Suggested Citation

Beyer, Andreas and Gaspar, Vitor and Issing, Otmar and Gerberding, Christina, Opting Out of the Great Inflation: German Monetary Policy after the Break Down of Bretton Woods (March 2009). CFS Working Paper No. 2009/01, ECB Working Paper No. 1020, Available at SSRN: https://ssrn.com/abstract=1328917

Andreas Beyer

European Central Bank (ECB) ( email )

Eurotower
Kaiserstrasse 29
D-60311 Frankfurt am Main
Germany
+49 69 1344 6468 (Phone)
+44 69 1344 6000 (Fax)

Vitor Gaspar

European Commission ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany
+49 69 1344 7200 (Phone)
+49 69 1344 6575 (Fax)

Otmar Issing (Contact Author)

Center for Financial Studies (CFS) ( email )

Gr├╝neburgplatz 1
Frankfurt am Main, 60323
Germany

Christina Gerberding

Deutsche Bundesbank ( email )

Wilhelm-Epstein-Str. 14
Frankfurt/Main, 60431
Germany

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