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August 1990, Vol. 113, No. 8
Consumer prices in the 1980's: the cooling of inflation
Reducing inflation was the major economic problem facing U. S. policymakers at the start of the 1980's. With consumer prices at the highest peacetime rate on record-up 13.3 percent in 1979- the focus of economic policymakers was on "reducing inflation, while achieving satisfactory growth in employment, output and productivity."1 Three years later, the rate of inflation had slowed considerably, with the Consumer Price Index for Urban Consumers (CPI-U) advancing only 3.8 percent during the year.
The success in reducing inflation was largely attributable to monetary policy resulting from actions of the Federal Reserve Board. In October 1979, the Federal Reserve modified its monetary policy by giving greater emphasis to holding the growth of monetary stock within target ranges and allowing interest rates to vary widely. In essence, the Federal Reserve began to target the quantity of money rather than its price. With the supply of money curtailed, interest rates rose sharply.
The reduction in the rate of inflation from 1979 through 1983 was not costless. Two recessions (January 1980-July 1980 and July 1981-November 1982), the second a particularly severe one, resulted in double-digit unemployment rates, reduced incomes, and a decline in output. The loss of revenue resulted in a sharp increase in the Federal deficit before economic recovery began at the end of 1982.
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1 Economic Report of President, January 1981, p. 31.
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