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The Supply-Shock Explanation of the Great Stagflation Revisited

Alan S. Blinder and Jeremy B. Rudd

in The Great Inflation: The Rebirth of Modern Central Banking

Previous studies have concluded that the two OPEC shocks, the two roughly contemporaneous food price shocks, and the removal of wage-price controls in 1973–1974 played key roles in the macroeconomic ... More

Previous studies have concluded that the two OPEC shocks, the two roughly contemporaneous food price shocks, and the removal of wage-price controls in 1973–1974 played key roles in the macroeconomic events which constituted the Great Stagflation. This chapter reexamines the supply-shock explanation in the light of new facts, new models, and new econometric findings, and shows that the “old-fashioned” supply-shock explanation holds up quite well. It is organized as follows. Section 2.2 outlines and slightly modernizes the basic conceptual framework, reexamining it in the light of much new theory and many new empirical findings, while Section 2.3 takes a fresh look at the evidence on the Great Inflation in the United States, once again using new data, new theory, and new econometric findings. Section 2.4 deals with a series of objections to the supply-shock explanation, while Section 2.5 looks beyond the narrow historical confines of the 1972 to 1982 period, considering supply shocks both prior to and after the Great Stagflation; and Section 2.6 concludes.Less

The Macroeconomic Effects of Oil Price Shocks: Why Are the 2000s so Different from the 1970s?

Olivier J. Blanchard and Jordi Galí

in International Dimensions of Monetary Policy

This chapter discusses the large output losses and the rises in inflation rates that accompanied the two oil shocks of 1970 in most industrialized countries, and shows the more recent absence of ... More

This chapter discusses the large output losses and the rises in inflation rates that accompanied the two oil shocks of 1970 in most industrialized countries, and shows the more recent absence of analogous effects, even though the rise in oil prices was of a similar magnitude. Using a Value at Risk (VAR) to identify exogenous oil price shocks, the chapter shows that the latter can only account for a relatively small part of the stagflationary episodes of 1970, suggesting that shocks other than oil but coinciding in time with the latter should also be held responsible for the dismal macroeconomic performance of that period. Three alternative explanations for the dampening effects of oil price shocks, that is, a smaller share of oil in production and consumption, more flexible labor markets, and an enhanced credibility of monetary policy are also given and being discussed in this chapter.Less

Oil Shocks in a DSGE Model for the Korean Economy

Sungbae An and Kang Heedon

in Commodity Prices and Markets

This chapter describes the oil shocks using a dynamic stochastic general equilibrium (DSGE) model for the Korean economy. The Korean economy depends entirely on imports for its acquisition of crude ... More

This chapter describes the oil shocks using a dynamic stochastic general equilibrium (DSGE) model for the Korean economy. The Korean economy depends entirely on imports for its acquisition of crude oil, and households, entrepreneurs, and policymakers are interested in knowing to what extent the rise in oil prices affects the economy. Within an Bayesian estimation framework including DSGE-vector autoregressions (VARs), the empirical analysis used is based on Korean aggregate data. Using Bayesian analysis, the model is used to check the importance of each channel that transmits an oil price shock to the economy. It is found that the model economy produces reasonable posterior estimates of the structural parameters and works relatively well compared to impulse responses from the VAR with optimal prior weight from the DSGE model. A more elaborated model on government behavior is anticipated to investigate the pass-through of oil price shocks.Less

Monetary Policy: Dealing with Fiscal Constraints and External Price Shocks

Juan Antonio Morales and Paul Reding

in Monetary Policy in Low Financial Development Countries

The chapter explores two significant challenges faced by central banks in LFDCs: fiscal dominance and external shocks. Monetary policy can be dominated by governments that rely on seigniorage ... More

The chapter explores two significant challenges faced by central banks in LFDCs: fiscal dominance and external shocks. Monetary policy can be dominated by governments that rely on seigniorage generated by the central bank or impose other constraints to facilitate the financing of persistent deficits. The chapter discusses and illustrates for several countries the concept of seigniorage, examines the mechanisms of fiscal dominance, and assesses its consequences. External oil and food price shocks also raise several monetary policy challenges. Using a theoretical approach, the chapter explores the trade-off between price and output stabilization that the central bank faces after a commodity price hike. The analysis takes into account whether the country is a net exporter or a net importer and whether it is on fixed or on flexible exchange rates. It also discusses coordination issues between monetary and fiscal policies, in particular when windfall gains accrue to the government.Less

Oil Shocked

Daniel J. Sargent

in A Superpower Transformed: The Remaking of American Foreign Relations in the 1970s

US economic and geopolitical interests were entwined in the Middle East in the early 1970s. Prioritizing geopolitical objectives, the Nixon administration bolstered Iran and Saudi Arabia as regional ... More

US economic and geopolitical interests were entwined in the Middle East in the early 1970s. Prioritizing geopolitical objectives, the Nixon administration bolstered Iran and Saudi Arabia as regional clients and cultivated Israel as a Cold War ally. Meanwhile, the declining U.S. share of global oil production made the United States-and the larger Western world-ever-more dependent upon the oil exports of the Middle East. In the context of the Middle East crisis of late 1973, which included an Arab-Israeli war and a major oil crisis, US decision-makers struggled to comprehend and manage the consequences of energy interdependence. Recognizing the damage that surging oil prices were doing to the Western Alliance, Henry Kissinger belatedly set out to manage-and mitigate-the vulnerabilities that economic interdependence created for the West and to stabilize the Middle East through the achievement of a bilateral peace between Egypt and Israel.Less

The Slipping Anchor, 1971–2008: The Nixon, Carter, and Greenspan Shocks

Ronald I. McKinnon

in The Unloved Dollar Standard: From Bretton Woods to the Rise of China

Anticipated dollar depreciations in the 1970s, and again from 2002 to 2008, set off hot money flows into countries on the dollar standard’s relevant periphery: Western Europe and Japan in the 1970s, ... More

Anticipated dollar depreciations in the 1970s, and again from 2002 to 2008, set off hot money flows into countries on the dollar standard’s relevant periphery: Western Europe and Japan in the 1970s, and emerging markets in the noughties. Anxious to prevent its national currency from appreciating precipitately, each national central bank intervened to buy dollars with base money—and lost monetary control. The resulting worldwide inflations arose from a surge in the world’s collective money supply that only affected the United States with a lag. In retrospect, the worldwide inflations of the 1970s are remembered by most people as simply “oil shocks” that were not primarily due to a collective loss of monetary control from dollar depreciations. But the true monetary origin of these earlier oil spikes was revealed by the 2007–8 spike. From 2002 the price of oil rose threefold even though there was no obvious “shock” to oil supplies from the Middle East.Less

Wars Against Waste

Eiko Maruko Siniawer

in Waste: Consuming Postwar Japan

The early 1970s were a sharp pivot point in Japan’s postwar history, as the Garbage War of 1971 and the Oil Shock of 1973 thrust waste and wastefulness into a place of unprecedented visibility. ... More

The early 1970s were a sharp pivot point in Japan’s postwar history, as the Garbage War of 1971 and the Oil Shock of 1973 thrust waste and wastefulness into a place of unprecedented visibility. Concerns about the waste of garbage and resources became acute, fueling environmental protection efforts and calls to “save resources” and “save energy.” The waste of things, resources, and energy came to be seen as tightly interrelated, and provoked reflection about the costs and consequences of mass production and mass consumption. With lamentations about the “throwaway society” and its “culture of disposability,” waste also became a site of reflection about the values and priorities born of high economic growth. In the 1970s, waste consciousness was not about subsistence or about friction to societal changes, but was rather a way to defend the middle-class lifestyles already achieved.Less

Uneasy Dialogue

Giuliano Garavini

in The Rise and Fall of OPEC in the Twentieth Century

Chapter 6 describes the failure of international negotiations between petrostates, key oil consumers, and developing countries during the Conference for International Economic Cooperation (also known ... More

Chapter 6 describes the failure of international negotiations between petrostates, key oil consumers, and developing countries during the Conference for International Economic Cooperation (also known as the North–South dialogue) held in Paris from 1975 to 1977. The chapter concludes with the “second oil shock” of 1979–80 that coincided with the revolution in Iran and the beginning of war between Iraq and Iran, and ends describing the failure of OPEC’s Long Term Strategy sealed at the OPEC Conference in Bali in December 1980.Less

The Oil Revolution

Giuliano Garavini

in The Rise and Fall of OPEC in the Twentieth Century

Chapter 5 describes the OAPEC oil embargo and then explains the reasons for the “oil shock”, with its fourfold increase in the price of crude oil by December 1973. After the price increases of 1973 ... More

Chapter 5 describes the OAPEC oil embargo and then explains the reasons for the “oil shock”, with its fourfold increase in the price of crude oil by December 1973. After the price increases of 1973 the governments of consuming countries now entered directly the arena of international energy politics with the convening of the Washington Energy Conference of 1974 and then the creation of the International Energy Agency (IEA) by the end of the same year. This chapter also explains why OPEC strived to present itself as the “spearhead” for Third World countries, hoping to establish a New International Economic Order that would reform international economic institutions and promote a kind of globalization more in line with the needs of raw materials producers and developing countries. The apex of this effort by OPEC was achieved in March 1975 with the convening of the OPEC summit of Algiers.Less

Japan: Paragon of Energy Efficiency, Green Growth Laggard

Brian Woodall

in Can Green Sustain Growth?: From the Religion to the Reality of Sustainable Prosperity

Despite compelling reasons to do so, Japanese policymakers have been reluctant to fully buy into a “green growth” strategy. One might have expected that the triple disasters of March 2011 – ... More

Despite compelling reasons to do so, Japanese policymakers have been reluctant to fully buy into a “green growth” strategy. One might have expected that the triple disasters of March 2011 – earthquake, tsunami, and nuclear crisis – would lead to dramatic policy change. Yet, to date, the changes made have been modest. Also, it is puzzling that Japanese policymakers have yet to forge a national energy strategy that seeks to stimulate investment in renewables, address energy security and climate change concerns, exploit untapped renewable energy resources, and leverage the R&D prowess of Japanese firms. Despite their dominant position in the green car market, Japanese companies tend to under-punch their weight in most clean-tech markets. Why is this so? This country case study traces the evolution of Japan’s energy policymaking process through five stages, highlighting the ways politics, institutional inertia, and path dependencies have shaped and constrained policy change.Less

Confederate Cabinets and the Demise of the “1955 System,” 1972–1993

Brian Woodall

in Growing Democracy in Japan: The Parliamentary Cabinet System since 1868

This chapter traces the evolution of the cabinet system through the “Nixon shocks” and “oil shocks” to the final days of the “1955 system.” In this era of “confederate cabinets,” an already blurry ... More

This chapter traces the evolution of the cabinet system through the “Nixon shocks” and “oil shocks” to the final days of the “1955 system.” In this era of “confederate cabinets,” an already blurry distinction between ruling party and cabinet became even blurrier, and a succession of corruption scandals intensified demands for political reform. Measures were taken to enhance the powers of the prime minister and cabinet, and yet these efforts failed to institutionalize top-down executive leadership. Influential lawmakers in policy tribes assumed a leading role in the fief-like policy sub-governments that characterized a fragmented policymaking environment. This state of affairs exacerbated the difficulties faced by prime ministers and cabinets in giving tactical direction to government policy. Meanwhile, cabinets confronted an array of challenges that included reducing government debt in a slow-growth economy and responding to popular demands to reform a structurally corrupt political order. The failure to fulfill promises of political reform brought down the curtain on nearly four decades of parliamentary dominance under the Liberal Democratic Party.Less

A World within a World

Tamara K. Hareven

in The Silk Weavers of Kyoto: Family and Work in a Changing Traditional Industry

Nishijin cloth is considered informally a cultural property of Japan. The introduction of the jacquard, followed by the spread of the powerloom, revitalized Nishijin's industry and made it supreme in ... More

Nishijin cloth is considered informally a cultural property of Japan. The introduction of the jacquard, followed by the spread of the powerloom, revitalized Nishijin's industry and made it supreme in Japan. Following its recovery after the Korean War, Nishijin enjoyed a decade of prosperity until dwindling markets, resulting from the Oil Shock of the early 1970s, caused its continuing decline. The manufacturers have continued to maintain family businesses, but the larger family concerns have been incorporated into companies. Nishijin's system of production underwent several transformations in the late nineteenth and early twentieth centuries, following the introduction of the jacquard mechanism and the powerloom. Nishijin's decline has undermined the weavers' security more dramatically than that of the manufacturers. Many older people who have lived through recessions in Nishijin view the current one as the most serious and irreversible in their experience.Less

The Islamization of the Iranian Revolution

Manlio Graziano

in Holy Wars and Holy Alliance: The Return of Religion to the Global Political Stage

This chapter explains the likely reasons for the ayatollahs' victory in Iran in 1979

Fall

Gary Gerstle

in The Rise and Fall of the Neoliberal Order: America and the World in the Free Market Era

Tensions within the New Deal order and Cold War liberalism began to emerge in the 1960s. A re-energized civil rights movement and popular opposition to the Vietnam War undermined Lyndon Johnson’s ... More

Tensions within the New Deal order and Cold War liberalism began to emerge in the 1960s. A re-energized civil rights movement and popular opposition to the Vietnam War undermined Lyndon Johnson’s presidency and fractured the New Deal coalition. The growth of international competition in the 1970s eroded global American economic leadership, prompting American corporations to expand their activities overseas and causing strains in the compact that had been established between labor and business in the postwar years. The oil shocks delivered the final blow to the Keynesian political economy that had underwritten the New Deal order and prompted a search for solutions to the novel problem of “stagflation.” Under the transitional presidency of Jimmy Carter an “incipient neoliberalism” emerged that was energized by hostility to government planning and regulation and the embrace of human rights and consumer sovereignty.Less