§8. Interest Rates and Price Indexes

Thus far we have considered the relation of changes in the price level and interest rates. It remains to study the relations of the price levels themselves to interest rates. The same basic data are used as in the preceding sections, but we now correlate the price indexes directly with the interest rates in Great Britain and the United States.

Chart 52 shows the British long term interest rates (bond yields) plotted with the wholesale price index for the years 1820-1924.

It is apparent that the P curve and the i curve, as plotted, conform very closely. Furthermore, lagging interest rates one year gives the highest obtainable degree of correspondence. The corresponding data for the United States, plotted on Chart 57 below without lagging i, shows the same close relationship between P and i.

On Chart 53 are plotted the curves of the correlation coefficients computed for P and i for Great Britain and the United States.

The r's for the whole period 1820-1924 for Great Britain are not shown on Chart 53 since they reveal nothing Edition: current; Page: [430] not shown by the r's for the shorter periods. These highly significant correlations seem to establish definitely that over long periods of time high or low interest rates follow high or low prices by about one year.

Comparison of short term interest rates with quarterly index numbers gives results of no significance for the period 1890-1914. On the contrary, the r's obtained from Edition: current; Page: [431] comparing these series over the period 1915-1927 are high; without lagging r = +0.709; lagging one quarter, r = +0.829; two quarters, r = +0.891; four quarters, r = +0.838. In both periods the coefficients of correlation grow smaller as the P's are lagged behind i, while they grow larger when i is lagged behind P. The results from the analysis of the short term data, while differing in some respects, may be said to confirm the results obtained from comparing the long term data.