The Missing Transmission Mechanism in the Monetary Explanation of the Great Depression

American Economic Review · 2013 · Volume 103 · Issue 3

Abstract

This paper examines the missing transmission mechanism in Friedman's and Schwartz's monetary explanation of the Great Depression. We review the challenge provided by the decline in nominal interest rates in the early 1930s, and show that the monetary explanation requires not just that there were expectations of deflation, but that they were caused by monetary contraction. Using a detailed analysis of Business Week magazine, we find evidence that monetary contraction and Federal Reserve policy contributed to expectations of deflation during the downturn. This suggests that monetary shocks may have depressed spending and output in part by raising real interest rates.

Keywords

History of Economic Thought: Individuals, Business Fluctuations, Cycles, Interest Rates: Determination, Term Structure, and Effects, Financial Markets and the Macroeconomy, Central Banks and Their Policies, Banks, Depository Institutions, Micro Finance Institutions, Mortgages, Economic History: Macroeconomics and Monetary Economics, Industrial Structure, Growth, Fluctuations: U.S., Canada: 1913-

Enable JavaScript for citation tools and additional paper interactions.