DEFINITION of 'McCallum Rule'

A monetary policy development guideline developed by economist Bennett T. McCallum. The rule describes the relationship between inflation and the growth in the money supply needed to create that level of inflation. Important inputs in this model are the target inflation rate and the long-term average rate of growth in real GDP.

BREAKING DOWN 'McCallum Rule'

When the economic statistics of the 1970s are used to back-test the McCallum rule, it shows that at least part of the effect that contributed to that era's economic downturn was the fact that it grew too rapidly, which ultimately lead to high levels of inflation.

However, the McCallum rule only describes one part of the story, as other economic models determined that the interest rates set by the Fed were also too low. Because the cost of borrowing was not high enough, individuals would simply borrow to spend instead of saving.

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