Paul Norman Forrest Taliaferro
OPEC imposed an embargo on oil shipments to U.S. and the Netherlands. Buyers tried to build precautionary inventories, bidding up market oil prices. Oil prices quadrupled The world economy was thrown into deep recession Current account balances of oil-importing countries worsened
Oil shock directly raised prices of petroleum and cost of energy using industries. The worldwide inflationary pressures had become entrenched in the wage setting process. Pressures continued to contribute to inflation in spite of the deteriorating employment picture.
Inflationary expectations driving new wage contracts put additional upward pressure on commodity prices Speculators built up stocks of commodities Central banks proved unwilling to combat inflationary pressures at the cost of yet higher unemployment
New term: Stagflation Combination of stagnating output and high inflation Results from two factors: 1. Increase in commodity prices 2. Expectation of future inflation
No commitment to fixed rates would have been credible Most industrial countries shifted to expansionary fiscal and monetary policies Central Banks reacted to rising unemployment & by mid 1975, strong output recovery was underway The 1974 current deficit turned to surplus in 1975 and was near zero in 1976.
OPEC countries had a substantial CA surplus in 1975, matched by the deficit of the oil- importing developing countries Freed from defend a fixed exchange rate, each government chose the monetary and fiscal response that best suited its goals Recovery slowed in late Unemployment remained persistently high.
U.S. urged Germany & Japan to also adopt expansionary policies U.S. acted alone, reignited inflation and pushed its CA into deficit A steep depreciation of the dollar started in 1976
Oil Exports from Iran fell Oil prices rose from $13 in 1978 to $32 in 1980 More stagflation for oil importing countries Different response to second oil shock Industrial Countries restricted monetary growth Central Banks worried inflation might be hard to reverse later if it were allowed to be built into inflationary expectations and the wage setting process,