How To Cure Inflation (if you really want to)

Curing inflation is not that hard, there’s no secret to it. As I’ve said before interest rates are just a price like any other price, they are the price of money. To cure inflation you have to make the price of money more expensive. More specifically you have to raise the price of money above the rate of inflation – in other words you have to create positive real interest rates.

In August 1979 when Paul Volker took over as Chairman of the Federal Reserve, inflation in the US was running at 11.8%. Volker, who was appointed by President Jimmy Carter and also served under Ronald Reagan, immediately raised interest rates way above the rate of inflation. In 1981 he took the prime lending rate to 21.5% and by 1982 inflation was down to 3.2%

Although Volker successfully whipped inflation, high interest rates had a crippling effect on the US economy. The construction and farming industries were particularly badly affected and months of protests culminated in indebted farmers driving their tractors to Washington and blockading the offices of the Federal Reserve.

Under Volker the Fed experienced the strongest political attacks and most widespread protests in the history of the central bank. However his resolve and eventual success in taming inflation ended more than a decade of recurring recession, low productivity growth, repeated debt crises and stagnant stock market performance (the Dow was no higher in 1982 than in 1965).

 

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