Monitory policy in Germany Bundsbank and great inflation

1983 1989
While the U.S economy staged a strong recovery following the 1981-82 recession, the same was not true of the West German economy. Growth was slightly below trend in 1983 and only slightly above trend in 1984 and 1985. The unemployment rate continued to rise steadily, reaching 9.3% in 1985.
On the other hand, a product of the weak economy was receding. Inflation was below target from 1983 to 1985. During this Period the Bundesbank returned short term nominal rates to slightly above pre 1979. However significantly higher real rates than during late 1970s. . As we show in section5, real rates during this period hovered slightly around and above long run equilibrium.
Why the West German economy along with the rest European economy- performed poorly over this period is a complex issue another that is well beyond the papers scope. It is plausible that high real interest rates were a factor. Real rates were similarly high in the U.S at this time. The U.S, however, had shifted to an expansionary fiscal policy. The same kind of fiscal stimulus was not present in West Germany.
Another often cited possibility was that the German economy was experiencing structural labor market problems, It, declines in capacity output. It is true that real wages grew rapidly from 1973 through 1989. The period 1982 to 1985, though, does not appear to have been a period of rapid wage growth. While we do not claim to resolve the issue, later we examine more carefully the behavior output relative to capacity and real interest rates over this period.
In middle 1984, the U.S began a systematic reduction of the funds rate in an effort, among other things, to reduce the value of the dollar. In early 1985, the mark began a steady appreciation against the dollar that lasted through early 1988. In response to the appreciating mark, the real economy weakened. Output growth declined over 1986 and 1987. Inflation fell below the 2 percent target.
The weak economy prompted the Bundesbank to once again demonstrate it inflexibility in both actions and language. Citing an appreciating mark, the Bundesbank eased short term rates. Real short term rates fell, though not to the levels of the middle to late 1970s. Following the easing, output growth picked up 1988 in 1989. A strong recovery finally materialized.