Question 3:Deflationand liquidity traps in the Great Depression

The Great Depression started in September 1929 and lasted until March 1933. The below pics contains data on short-term interest rates andinflation for the period 1929 - 2020, a time period that included the Depression.

• Graph the data on nominal interest rates. Assuming that the effective lower bound fornominal interest rates is zero, was the economy in a liquidity trap (or close to a liquiditytrap) during the Great Depression? How do nominal interest rates in the 1930s comparewith nominal rateslater on? Were nominal interest rates during the Depression notablyhigh or notably low?

• Using the data provided in the spreadsheet, compute the real interest rates.Graph thereal interest rate you have computed. Were real interest rates during the Depressionnotably high or notably low? What accounts for thedifferencebetween thebehaviorofthe nominal interest rate and the real interest rate?

• Was the behavior of real interest rates likely to stimulate economic activity tohelp endthe Depression, or were real interest rates likely to prolong the Depression?

Inflation and interest rates 1929 - 2020 Year Yearly average of 3-month interest rates Inflation Rate year-over-year 1929 4.42% 0.60% 1930 2.23% -6.40% 1931 1.15% -9.30% 1932 0.78% -10.30% 1933 0.26% 0.80% 1934 0.28% 1.50% 1935 0.17% 3.00% 1936 0.17% 1.40% 1937 0.28% 2.90% 1938 0.07% -2.80% 1939 0.05% 0.00% 1940 0.04% 0.70% 1941 0.13% 9.90% 1942 0.34% 9.00% 1943 0.38% 3.00% 1944 0.38%% 2.30% 1945 0.38% 2.20% 1946 0.38% 18.10% 1947 0.60% 8.80% 1948 1.05% 3.00% 1949 1.12% -2.10% 1950 1.20% 5.90% 1951 1.52% 6.00% 1952 1.72% 0.80% 1953 1.89% 0.70% 1954 0.94% 0.70% 1955 1.73% 0.40% 1956 2.63% 3.00% 1957 3.23% 2.90% 1958 1.77% 1.80% 1959 3.39% 1.70%1960 2.88% 1.40% 1961 2.35% 0.70% 1962 2.77% 1.30% 1963 3.16% 1.60% 1964 3.55% 1.00% 1965 3.95% 1.90% 1966 4.86% 3.50% 1967 4.31% 3.00% 1968 5.34% 4.70% 1969 6.67% 6.20% 1970 6.39% 5.60% 1971 4.33% 3.30% 1972 4.07% 3.40% 1973 7.03% 8.70% 1974 7.83% 12.30% 1975 5.78% 6.90% 1976 4.97% 4.90% 1977 5.27% 6.70% 1978 7.19% 9.00% 1979 10.07% 13.30% 1980 11.43% 12.50% 1981 14.03% 8.90% 1982 10.61% 3.80% 1983 8.61% 3.80% 1984 9.52% 3.90% 1985 7.48% 3.80% 1986 5.98% 1.10% 1987 5.78% 4.40% 1988 6.67% 4.40% 1989 8.11% 4.60% 1990 7.49% 6.10% 1991 5.38% 3.10% 1992 3.43% 2.90% 1993 3.00% 2.70% 1994 4.25% 2.70%1995 5.49% 2.50% 1996 5.01% 3.30% 1997 5.06% 1.70% 1998 4.78% 1.60% 1999 4.64% 2.70% 2000 5.82% 3.40% 2001 3.39% 1.60% 2002 1.60% 2.40% 2003 1.01% 1.90% 2004 1.37% 3.30% 2005 3.15% 3.40% 2006 4.73% 2.50% 2007 4.35% 4.10% 2008 1.37% 0.10% 2009 0.15% 2.70% 2010 0.14% 1.50% 2011 0.05% 3.00% 2012 0.09% 1.70% 2013 0.06% 1.50% 2014 0.03% 0.80% 2015 0.05% 0.70% 2016 0.32% 2.10% 2017 0.93% 2.10% 2018 1.94% 1.90% 2019 2.06% 2.30% 2020 0.37% 1.20%