Credit Expansion and Inflation Expectations — Evidence From Post 2007-08 Financial Crisis In The US

Abstract

The post 2007-08 crisis US stabilization policy had considerable impacts in eliminating the deflationary pressures and credit crunch that persisted in the then US economy when the conventional monetary policy resulted in a zero lower bound. The quantitative easing (QE) program of the Fed had eased the credit constraints in the US economy. Existence of both short-run and long-run causality between credit expansion and inflation expectations in the aftermath of the crisis are observed. In that sense, our results contest the view that private households considered QE as a temporary policy and therefore, it failed to contribute towards the improvement in inflation expectations. The low Federal fund rate didn’t increase loan issuance in the commercial banking sector. Neither did it improve inflation expectations in the US. Therefore, it seems that the lower Federal rate had limited its role only to the decreased real interest rates.

The fiscal stimulus of Obama administration had resulted in worsened budget deficit; but also improved inflation expectations in the US. The US crude oil price was found cointegrated with inflation expectations since the emergence of the crisis. Actual inflation has traditionally been one of the major determinants of inflation expectations. However, we found otherwise in the case of US in the aftermath of the crisis. The giant financial crisis seems to have affected the interlinkage between the two.

Keywords: Zero Lower Bound, Quantitative Easing, Inflation Expectations, ARDL, VAR

JEL Classification: C32, E52, E58, O51