deposit insurance was virtually nonexistent, so that the failure of a bank might cause depositors to lose all or most of their savings. thus, depositors who feared that a bank might fail rushed to withdraw their funds. banking panics, if severe enough, could become self - confirming prophecies. during the 1930s, thousands of u. s. banks experienced runs by depositors and subsequently failed. long - established central banking practice required that the fed respond both to the speculative attack on the dollar and to the domestic banking panics. however, the fed decided to ignore the plight of the banking system and to focus only on stopping the loss of gold reserves to protect the dollar. to stabilize the dollar, the fed once again raised interest rates sharply, on the view that currency speculators would be less willing to liquidate dollar assets if they could earn a higher rate of return on them. the fed's strategy worked, in that the attack on the dollar subsided and the u. s. commitment to the gold standard was successfully defended, at least for the moment. however, once again the fed had chosen to tighten monetary policy despite the fact that macroeconomic conditions - including an accelerating decline in output, prices, and the money supply - seemed to demand policy ease. the third policy action highlighted by friedman and schwartz occurred in 1932. by the spring of that year, the depression was well advanced, and congress began to place considerable pressure on the federal reserve to ease monetary policy. the board was quite reluctant to comply, but in response to the ongoing pressure the board conducted open - market operations between april and june of 1932 designed to increase the national money supply and thus ease policy. these policy actions reduced interest rates on government bonds and corporate debt and appeared to arrest the decline in prices and economic activity. however, fed officials remained ambivalent about their policy of monetary expansion. some viewed the depression as the necessary purging of financial excesses built up during the 1920s ; in this view, slowing the economic collapse by easing monetary policy only delayed the inevitable adjustment. other officials, noting among other indicators the very low level of nominal interest rates, concluded that monetary policy was in fact already quite easy and that no more should be done. these policymakers did not appear to appreciate that, even though nominal interest rates were very low, the ongoing deflation meant that the real cost of borrowing was very high because any loans would have to be repaid in dollars of much greater value (

nominal interest rate fell from slightly more than 8 percent in 1991 to 1 / 2 percent in 1995, where it stayed until being lowered essentially to zero in 1999. however, the loosening of monetary policy in the early 1990s, though probably appropriate given the expectations of future economic developments generally held at that time, in retrospect proved to be too slow in light of the declines in spending and prices that subsequently occurred amid persistent price deflation - and face to face with the constraints on monetary policy imposed by the zero lower bound on short - term nominal interest rates - the bank of japan introduced what it called a “ quantitative easing ” framework in march 2001. this framework included switching the operating target for money market operations from the overnight interest rate to the outstanding balance of reserve accounts held by financial institutions at the central bank. in an attempt to change deflationary expectations, the bank of japan stated that it would continue to target reserve accounts until the core consumer price index showed a twelve - month inflation rate of zero or above. over the roughly two years since then, reserve accounts at the bank of japan have risen nearly six - fold, from ¥5 trillion in march 2001 to about ¥28 trillion today. in addition, since march 2001 the bank of japan has increased the monthly amount of its outright purchases of long - term government bonds from ¥400 billion to ¥1. 2 trillion. i assume that these monetary policy actions have provided some support for economic activity. however, the japanese economy appears not to have returned to a path of sustainable growth for several reasons, some of which may require responses by entities other than the bank of japan. first, the bank of japan introduced quantitative easing only after prices were already on a sustained downward trajectory ; perhaps, even then, efforts were not aggressive enough, given entrenched deflationary expectations. since early 1995, consumer price inflation has been around or below zero, and by march 2001, prices were declining at nearly 1 percent per year. according to surveys of private economists and further evidenced by very low interest rates on long - term japanese government bonds, deflation had clearly become embedded in expectations. second, the stimulus provided by monetary policy in japan continues to be damped by wellrecognized problems in japan ’ s banking sector. factors such as low profitability and insufficient actions to restore the banking sector ’ s health have combined to erode banks ’ capital base. because i believe strongly in capital levels that fully reflect differing categories of risk, i think that the