Does Monetary Policy Matter? A New Test In The Spirit Of Friedman And Schwartz

1. Does Monetary Policy Matter? A New Test In The Spirit Of Friedman And Schwartz Does Monetary Policy Matter? A New Test In The Spirit Of Friedman And Schwartz Written By: Christina D. Romer and David H. Romer Presented By: A.J. Andolino, Jim Larson, Trevor Feltz

2. Introduction • Does Monetary policy have significant effects on the economy? • Reanalysis of A Monetary History by Friedman & Schwartz (1963) • The Narrative Approach • Specific Disturbance Classification • Statistical analysis • Were their interwar conclusions correct? • Do the results of the narrative approach hold true in the post-war era?

3. Why Reanalyze the Paper? • A Monetary History has been praised for its findings on the influence of monetary policy • Romer & Romer wanted to analyze the data with a revised narrative approach • Unintentional bias may have been present in Friedman & Schwartz’s paper

4. Friedman & Schwartz • Define monetary shocks as “a movement that is unusual given economic development” • Are these shocks negative or positive?

5. Friedman & Schwartz • Their approach found four significant economic events in the interwar period. • January-July 1920 • Beginning of the Great Depression • October 1931 • June 1936-January 1937 • They determined that contractionary non-monetary forces such as tax increases or changes in government spending led to these shocks

6. Two Possible Biases • Two interwar economic events were overlooked by Friedman & Schwartz, questioning the validity of their selection process -1933: Deflationary policy during recession -1941: Reserve rate rises, no apparent shock • They may have searched for exogenous shocks during the period when output fell (non-monetary policies) -Endogenous variables leading the economic shock were overlooked

7. New Narrative Approach • Post-war period deemed better than interwar due to a better understanding of monetary policy • Specified criteria for determining shocks • Reviewed FOMC minutes to find events where the Fed expressed concern about rising inflation

8. What Happened After the Shocks? • After these six shocks in the post war period were identified, Romer and Romer chose two methods to see what happened • Informal Evidence • Statistical Test

9. Informal Evidence

10. Informal Evidence

11. Statistical Test y=change in unemployment rate or log industrial production D=dummy variable (was there a monetary shock or not) M=monthly dummy variables

12. Romer & Romer’s Findings • The effects of the monetary disturbances are very persistent in the post-war era. • The shocks identified account for much of the post Word War II economic fluctuations. • Evidence in the interwar era (between World War I and II) suggests that monetary disturbances have large real effects. • Bias exists in Friedman and Schwartz’s selection of monetary shocks

13. Empirical Results

14. Empirical Results • Fed purposely induced many recessions (Postwar Era) • Policy led to 12% decrease in production • 2% increase in unemployment • 5 years after shock 7% decrease in production can be found still (highly persistent) • T statistic= -3.4 (statistically significant) • Output reduction due to policy not chance • 20% reduction in industrial production due to monetary disturbances (Interwar era) • Real effects found between WWI-WWII not persistent • 33 months economy back to previous path

15. Conclusions • Monetary Policy has large real effects in both periods but persistence of those real effects varies between the inter and post war • Friedman and Schwartz’s results hold true with new narrative approach