How a Saturday Night Press Conference Broke American Inflation

On Saturday evening, October 6, 1979, Paul Volcker walked into a Federal Reserve press conference scheduled at the last minute, on the holiday weekend, and told reporters the central bank had voted earlier that day to change how it ran monetary policy. From now on, instead of trying to nudge the federal funds rate up or down day by day, the Fed would target the quantity of bank reserves in the system. Whatever interest rate that produced, the rate produced.

The decision was a response to a number that had stopped being political and had become structural. Consumer prices were rising faster than nine percent a year and accelerating. M1, the narrowest measure of money supply, had been growing at over nine percent against a Fed target ceiling of 4.5. The reserves-targeting framework was a way to commit publicly to slowing money growth and accept whatever interest rate fell out of the math.

The rate that fell out was historic. Fed funds went from about 11 percent in September 1979 to 13.8 percent by October, 17.2 percent by March 1980, and a peak of 20 percent in June 1981. The prime rate hit 21.5 percent. Two recessions followed back to back. Unemployment climbed past ten percent in 1982 — the worst since the Great Depression — and Latin American countries that had borrowed in dollars defaulted in chain.

Inflation broke. The 14.8 percent peak of March 1980 had fallen to 2.5 percent by August 1983, and the 1980s and 1990s would never see anything like the price spirals of the previous decade. Volcker's tenure became the standard reference for what central bank credibility costs and what it buys: a deep, deliberate recession in exchange for the next twenty years of stable money.