lation thus prompts households to spend more on housing than would be optimal in a low-inflation environment. Thus, the real estate boom in the 1970s was fueled in part by inflation-induced distortions, wrote Lynn Browne of the Boston Fed. High rates of inflation accelerated home buying by increasing the real, after-tax returns to investment in owner-occupied housing relative to alternative investments. A lag in interest rates reinforced this uptick in demand. As house prices in turn began to rise faster than the general price level, people rushed to buy rather than face higher prices later. These distortions in the housing market reverberated across other markets. In the forestry industry, for example, housing starts are watched closely to project future sales. Many firms responded to the housing boom in the mid-1970s by expanding sawmill capacity. The St. Regis Corporation, now a subsidiary of Champion International, based in Stamford, Connecticut, decided in the mid-1970s to build a sawmill in Costigan, Maine. The sawmill initially did poorly, as it came on-line when the housing market's boom turned to bust. Vice President Bob Turner recalls that the Costigan mill lost money through the early 1980s, in part because of the firm's misperceptions about future demand. Distortions in economic activity also may result from the uncertainty that arises about inflation's future course. When inflation is stable, people are more likely to have roughly the same anticipation of its future level. When inflation is highly volatile, however, people have different guesses. Most turn out to be w...
