Asset inflation and monetary policy

PSLQuarterlyReview,vol.62nn.248-251(2009),29-50©AssociazionePaoloSylosLabiniBNLQuarterlyReview,vol.48n.192,March,1995pp.17-37AssetinflationandmonetarypolicyCHARLESP.KINDLEBERGER∗IAssetinflation,asdistinguishedfromordinaryinflation,thelatterreferringtorisingpricesofconsumergoods,wholesalecommodities,orthenational-incomedeflator,isaphrasenotinuseinthewest,butcurrentinJapan.Therearetimeswhenassetsriseinpriceinaninflationaryway,aboomorevenabubble,whileoutputpricesarerelativelystableorevendeclining.Regardingafamousinstancein1928and1929,MiltonFriedmanandAnnaJacobsonSchwartzwrotethatthemonetaryauthoritiesshouldhaveignoredtheriseintheNewYorkstockmarket,andfocusedattentiononothergoalssuchasthegeneralpricelevel.1Morerecently,attheendof1989,theBankofJapanmovedtotighteninterestratesafterignoringthespectacularriseoftheequityNikkeiindexfromapproximately10,000in1984to39,000in1989,finallyfearfulthatrisingassetpriceswouldultimatelyprovokeinflationattheconsumerlevel,andworriedthatthespreadofinflationfromsharestorealestatewasputtinghousingoutofthereachoftheaverageJapaneseandthreateningsocialharmony.2TheGovernoroftheBankofJapan,YasuskiMieno,whotookofficeinDecember1989,wasambivalentoverthechangeinpolicy:ThiswasaninstanceofinternationalcoordinationofmonetarypolicyasUnitedStatesandGermandiscountrateswereloweredatthesametime.“Heexplained[inaninterviewwithJamesSterngold]thatsteeprisesinassetpricescouldnotbegiventhesameemphasisinpolicy-makingascouldbroadermeasuresofconsumerprices.Ontheotherhand,theycould∗MassachusettsInstituteofTechnology,Cambridge,Mass.(USA).IamgratefulforcommentsonthefirstdraftfromPeterL.Bernstein,MartinBronfenbrennerandRobertM.Solow.1FriedmanandSchwartz(1963),pp.261-62.2NewYorkTimes,May29(1994),p.33.30PSLQuarterlyReviewnotbeignored.”3MikioWakatsuki,formerdeputyGovernoroftheBankofJapanandin1994chairmanoftheboardofcouncillorsoftheJapaneseresearchinstitute,echoedthisindecision:“Westilldon’tknowtheconnectionbetweenmonetarypolicyandassetprices[...]whatbenchmarkdoyouuse?Whichpricesdoyoufollow?Wedon’tknowanddidn’tknowthen.”4ThesenseofuneasefeltbyBankofJapanofficialswasexpressedinadifferentsettinginaninterviewwithPaulVolcker:Question(byFrederickSmoler):“Wasn’toneoftheunanticipatedconsequencesofyourvictoryoverinflation[in1979-81]thereplacementofspeculationincommoditiesbyevenmoreunwelcomespeculationinfinancialinstruments?”Answer(PaulVolcker):“You’reright[...]thecommoditiesspeculationdidn’taffectthebankingsystemperse;thebanksdealincreditinstruments,notincommodities,sotheyavoidedmostofthat.Thebankshadgonethroughaspeculativerealestateboominthemid-seventies[...]notmuchcomparedtowhathappenedsince–butwethoughtitwasbigthen.ThentheywentthroughtheLatinAmericanlendingbinge[...]energyspeculationinTexasandelsewhere.Allthatcollapsedwithhighinterestratesandsevererecession,butwithintwoorthreeyearswewerebackinarealestatefrenzy,withspeculationwellbeyondwhatwe’dhadbefore,andthebankingsystemwentthroughanotherandevenbiggerconvulsion.ImustconfessIwouldnothaveanticipatedit,giventhefinancialhellthateverybodyhadgonethroughintheearlyeighties.Couldithavebeenprevented?Idon’tknow[...].”5WorkonassetpricesinAnglo-Saxoneconomiccircleshasconcentratedforthemostpartonhowthepricesofindividualassetsaredetermined,ontherelationsofthepriceofonetypeofassettothatofanother–equities,bonds,options,futures,andotherderivatives(butnotrealestate),theirconnectionwithgeneralequilibrium,andthetheoryofefficientmarkets.Thefielddoesnotdealwithwhatassetpricesand3NewYorkTimes,May29(1994),p.36.4Ibid.5Smoler(1994),p.9.Assetinflationandmonetarypolicy31changesinthemmaymeanforinflation.Thefieldisrelativelynew.Inthefallof1991,theNationalBureauofEconomicResearchestablishedaprograminassetprices:“ahighlytechnicalfieldofeconomics[...]studyingavarietyoftopics[...]includinggeneralequilibrium,assetpricingmodels,internationalfinancialintegration,derivativesecurities,andsomeintriguingmicroeconomicpuzzles.”6Nomentionwasmadeoffinancialbubblesorinflation,orofmarketsforresidentialandcommercialrealestate,thelastofwhichdominatetheBankforInternationalSettlements(BIS)aggregateassetindexes,discussedbelow.RealestateinsuchauniversityasM.I.T.isstudiedinaseparatecenternotconnectedwiththeFinanceDepartmentintheSloanSchoolofManagement.Nordoinflation,monetarypolicyorrealestateappearamongthetopicsdiscussedatmeetingsoftheNBERAssetPricingPrograminthefallof1993orthespringof1994.7JohnY.Campbell,directoroftheNBERprogramandprofessorofeconomicsatPrincetonUniversity,wroteareviewarticleontheNewPalgraveDictionaryofMoneyandFinance(1994b)andaresearchsummaryon“Whatmovesthestockmarket?”,8againinthenarrowcontextoftechnicalfinanceratherthanmacroeconomicbehaviorandpolicy.Financialeconomists“areconcernedwithinterrelationshipsbetweenthepricesofdifferentfinancialassets.Theyignorewhatseemstomanytobethemoreimportantproblemofwhatdeterminestheoveralllevelofassetprices.”9IfAmericanandBritishinvestigatorstendtoignoreassetinflation,thestaffoftheBankforInternationalSettlementshaspaiditattentioninrecentyears,bothinannualreportsfrom1992for