Hostname: page-component-cd9895bd7-dzt6s Total loading time: 0 Render date: 2024-12-23T11:56:46.015Z Has data issue: false hasContentIssue false
  • English
  • Français

Was the Gibson Paradox for real? A Wicksellian study of the relationship between interest rates and prices

Published online by Cambridge University Press:  28 July 2014

Jagjit S. Chadha  and
Morris Perlman
Jagjit S. Chadha*
Affiliation:
University of Kent
Morris Perlman
Affiliation:
London School of Economics
*
Corresponding author: Jagjit Chadha, Chair in Banking and Finance, School of Economics, University of Kent, Canterbury, UK, CT2 7NP, jsc@kent.ac.uk and jagjit.chadha@econ.cam.ac.uk.
Get access Rights & Permissions [Opens in a new window]

Abstract

We examine the relationship between prices and interest rates for seven advanced economies in the period up to 1913, emphasising the UK. There is a significant long-run positive relationship between prices and interest rates for the core commodity standard countries. Keynes ([1930] 1971) labelled this positive relationship the ‘Gibson Paradox’. A number of theories have been put forward as possible explanations of the paradox but they do not fit the long-run pattern of the relationship. We find that a formal model in the spirit of Wicksell (1907) and Keynes ([1930] 1971) offers an explanation for the paradox: where the need to stabilise the banking sector's reserve ratio, in the presence of an uncertain ‘natural’ rate, can lead to persistent deviations of the market rate of interest from its ‘natural’ level and consequently long-run swings in the price level.

Keywords

Gibson's ParadoxKeynes–Wicksellpricesinterest rates

JEL classification

B22: Macroeconomics E31: Price Level • Inflation • Deflation E42: Monetary Systems • Standards • Regimes • Government and the Monetary System • Payment Systems E12: Keynes • Keynesian • Post-Keynesian
Type
Articles
Information
Financial History Review , Volume 21 , Issue 2 , August 2014 , pp. 139 - 163
Copyright
Copyright © European Association for Banking and Financial History e.V. 2014 

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

Ashton, T. S. (1959). Economic Fluctuations in England, 1700–1800. London: Oxford University Press.Google Scholar
Barro, R. J. (1987). Government spending, interest rates, prices and budget deficits in the United Kingdom, 1701–1918. Journal of Monetary Economics, 20, pp. 221–47.CrossRefGoogle Scholar
Barsky, R. B. (1987). The Fisher effect and the forecastability and persistence of inflation. Journal of Monetary Economics, 19, pp. 3–24.CrossRefGoogle Scholar
Barsky, R. B. and Summers, L. H. (1988). Gibson's paradox and the gold standard. Journal of Political Economy, 96, pp. 528–50.CrossRefGoogle Scholar
Benjamin, D. K. and Kochin, L. A. (1984). War, prices and interest rates: a martial solution to Gibson's paradox. In Bordo, M. D. and Schwartz, A. J. (eds.), A Retrospective on the Classical Gold Standard, 1821–1931. Chicago: University of Chicago Press for NBER.Google Scholar
Bordo, M. D. and Rockoff, H. (1996). The gold standard as a ‘Good Housekeeping seal of approval’. Journal of Economic History, 56(2), pp. 389–428.CrossRefGoogle Scholar
Bordo, M. D. and Schwartz, A. J. (1994). The specie standard as a contingent rule: some evidence for core and peripheral countries, 1880–1990. NBER Working Paper no. 4860.CrossRefGoogle Scholar
Bordo, M. D. and Schwartz, A. J. (1999). Monetary policy regimes and economic performance: the historical record. In Taylor, J. B. and Woodford, M. (eds.), Handbook of Macroeconomics. Amsterdam: Elsevier Science.Google Scholar
SirClapham, J. (1944). The Bank of England: A History, vol. II, London: Cambridge University Press.Google Scholar
Crafts, N. F. R. (1985). British Economic Growth during the Industrial Revolution. Oxford: Oxford University Press.Google Scholar
Fisher, I. (1930). The Theory of Interest. London: Macmillan.Google Scholar
Friedman, M. and Schwartz, A. J. (1982). Monetary Trends in the United States and the United Kingdom: Their Relation to Income, Prices, and Interest Rates, 1867–1975. Chicago: University of Chicago Press for NBER.CrossRefGoogle Scholar
Gayer, A. D., Rostow, W. W. and Schwartz, A. J. (1953). The Growth and Fluctuations in the British Economy 1790–1850, 2 volumes. Oxford: Clarendon Press.Google Scholar
Hawtrey, R. G. (1927). The monetary theory of the trade cycle and its statistical test. Quarterly Journal of Economics, 41(3), pp. 471–86.CrossRefGoogle Scholar
Keynes, J. M. [1930] (1971). The Applied Theory of Money: A Treatise on Money, vol. 6 of the Collected Writings of John Maynard Keynes. Reprint London: Macmillan and New York: Cambridge University Press for the Royal Economic Society.CrossRefGoogle Scholar
Keynes, J. M. [1936] (1974). The General Theory of Employment, Interest and Money. Reprint London: Macmillan and New York: Cambridge University Press for the Royal Economic Society.Google Scholar
Koop, G., Pesaran, M. H. and Potter, S. M. (1996). Impulse response analysis in nonlinear multivariate models. Journal of Econometrics, 74, pp. 119–47.CrossRefGoogle Scholar
Koopmans, L. H. (1995). The Spectral Analysis of Time Series. London: Academic Press.Google Scholar
Lewis, A. (1954). Economic development with unlimited supplies of labor. Manchester School, 22, pp. 139–91.CrossRefGoogle Scholar
Macaulay, F. R. (1938). The Movements of Interest Rates, Bond Yields and Stock Prices in the United States since 1856. New York: NBER.Google Scholar
Muscatelli, V. A. and Spinelli, F. (1996). Gibson's paradox and policy regimes: a comparison of the experience in the US, UK and Italy. Scottish Journal of Political Economy, 43, pp. 468–92.CrossRefGoogle Scholar
Pressnell, L. H. (1960). The rate of interest in the eighteenth century. In Pressnell, L. H. (ed.), Studies in the Industrial Revolution. London: Athlone Press, pp. 178–215.Google Scholar
Sargent, T. J. (1973). Interest rates and prices in the long run: a study of the Gibson paradox. Journal of Money Credit and Banking, 5(1), pp. 385–449.CrossRefGoogle Scholar
Shiller, R. J. and Siegel, J. J. (1977). The Gibson paradox and historical movements in real interest rates. Journal of Political Economy, 85, pp. 891–907.CrossRefGoogle Scholar
Tooke, T. (1844). An Inquiry into the Currency Principle. London: Longman, Brown, Green and Longmans.Google Scholar
Wicksell, K. [1898a] (1936). Interest and Prices. London: Macmillan for the Royal Economic Society.Google Scholar
Wicksell, K. [1898b] (1958). The influence of the rate of interest on commodity prices. In Selected Papers on Economic Theory. London: George Allen and Unwin.Google Scholar
Wicksell, K. (1907). The influence of the rate of interest on prices. The Economic Journal, 17, pp. 213–20.CrossRefGoogle Scholar