Abstract
In this paper we examine the sources and impact of deflation on the growth experiences of the four dominant countries on the gold standard in the period 1880–1913: the United States, The United Kingdom, France and Germany. We distinguish between good deflation, (driven by positive aggregate supply shocks) and bad deflation (driven by aggregate demand shocks). We use an empirical Blanchard/Quah model which decomposes the behaviour of prices, output and the money stock into the impact of shocks such as a world price level shock, a domestic supply shock, and domestic demand shocks including a shock to the domestic gold stock. Our key finding is that the European economies were essentially classic in the sense that output was mainly supply driven and that money was neutral even when country specific gold stocks are included. In the United States, however, we observe both good and bad deflation.
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Notes
Many people take issue with the term “good” deflation on the view that any departures from price stability are problematic. An alternative set of terms that we could use are “benign” versus “malignant” deflation or “the good, the bad and the ugly” as used by Borio and Filardo (2004). These terms connote: productivity driven deflation as used by us; low deflation and stagnation as has been the case in Japan; and the interwar experience.
We choose the period 1880–1913 because the US did not return to the gold standard until after the Civil War Suspension of Convertibility ended in 1879 and because France had also suspended convertibility in the Cours Forcé from 1871 to 1878. However, it should be noted that world deflation in gold prices actually began in 1873.
The first is by estimating the following model
$$ {g_t} = \alpha + \beta t + {\delta_0}{D_{st}} + {\delta_1}{D_{st}}t + \varepsilon $$where Dst is a dummy variable that takes a value of 1 after period s. The Quandt likelihood ratio approach to finding a break is to calculate the F-test for
$$ {H_0}:\begin{array}{*{20}{c}} {{\delta_0} = 0} \\{{\delta_1} = 0} \\\end{array} vrs\;{H_A}:{\hbox{one}}\,{\hbox{of}}\,{\hbox{them}}\,{\hbox{is}}\,{\hbox{not}}\,{0} $$We run this model for s=1879…1907. That is we trim the first 15% and last 15% of the sample.
We also tested for a break in the drift of the series, where the date of the break is unknown, using the Quandt Likelihood Ratio test, and found evidence of a structural break in the US and French price series in 1897 and 1898 respectively. The F-stat for the German and UK price series peaked in 1896.
E.g. Clapham (1963; ch.8).
Again, we used QLR tests as well, and there was no evidence of a break at any time.
Central banks however were not necessarily publicly owned, and notes were not de jure legal tender.
The Appendix contains a simple model motivating our identifying assumptions.
Craig and Fisher (2000) conclude that the gold standard tied together the monetary but not the real side.
Information criteria and likelihood ratio tests suggest a lag lengths of 1 and 2 respectively. The estimates of the 2 lag model yields significant coefficients on the second lag of some variables in each equation. Moreover, a 2 lag DVAR produces impulse response functions that are theoretically plausible for all countries in the sample.
The p-value for the Wald test that all slope coefficients are equal across countries is 0.96
The two alternative deterministic components are a constant and a constant plus a trend.
The analysis below reports results for aggregate income and money stocks, rather than for per capita values. We repeated the analysis with per capita data and the qualitative results did not change.
Statistically it reflects the fact that the reduced form residuals are close to orthogonal.
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The authors wish to thank participants at the CNEH conference and at the Money/macro seminar at Carleton University and Tulane University, for comments, and Jake Wong for research assistance.
Data appendix
Data appendix
U.S.
Data on money, prices and GDP all from Balke and Gordon (1986). The money series is M2 (in billions of dollars) and they describe it as an average of quarterly data. Money stock and RGDP are converted from local currency units to British pounds using the exchange rate between the local currency and the pound for each year of the sample. Data on gold from NBER Historical data series 14076.
UK
the GDP deflator is the ratio of constant (1900 prices) to current prices GDP from Mitchell (2003; Table J1) rebased to 1913=100. Money is M3 (in millions of pounds sterling) annual average data from Capie and Webber (1985;76). Real GDP are from Mitchell (2003; Table J1), based on the estimates of Feinstein. Gold is the sum of Bank of England reserves from Jones and Obstfeld (NBER data) and gold outside the Bank of England is from Capie and Webber (1985, 198) col. IV.
Germany
the GDP deflator is the ratio of constant (1900 prices) to current prices GDP from Mitchell (2003; Table J1) rebased to 1913=100. GDP is the sum of NNP + CF from Mitchell (2003; Table J1), who in turn took the data from Hoffman (1965). Money stock is M2 (in millions of marks) from Tilly (1973; 347), with a correction for his typo in 1907. Money stock and RGDP are converted from local currency units to British pounds using the exchange rate between the local currency and the pound for each year of the sample. Gold reserves from Deutsche Bundesbank (1976; 36) “Geld in barren und munzen” Table 1.01; Gold in circulation from Deutsche Bundesbank (1976; 14) “Goldmunzen” Table 1.01.
France
the GDP deflator is the ratio of constant (1900 prices) to current prices GDP from Mitchell (2003; Table J1) rebased to 1913=100. GDP is the sum of NNP + CF from Mitchell (2003; Table J1), based on Toutain (1987). The money stock is computed as the sum of notes in circulation and sight deposits (from St. Marc (1983; 37)) and an interpolated series of specie in circulation. This latter is derived by interpolating between Sicsic’s data points (1878, 1885, 1891, 1897, 1903, 1909) using Pupin’s annual estimates of the coin in circulation. Specie in circulation comprised two-thirds of the money stock in 1880 and one third in 1913. Gold: Sicsic (1989) data on gold coin, interpolated with Dunuc’s data plus Gold in the Bank of France from Jones and Obstfeld’s NBER data.
World
Stock of gold from Cassel (1930) Appendix 1; stock of monetary gold from Kitchin (1930) Table B.
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Bordo, M.D., Landon-Lane, J. & Redish, A. Deflation, Productivity Shocks and Gold: Evidence from the 1880–1914 Period. Open Econ Rev 21, 515–546 (2010). https://doi.org/10.1007/s11079-010-9165-1
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DOI: https://doi.org/10.1007/s11079-010-9165-1