Capital Income Taxes and the Benefit of Price Stability

Abstract

Going from low inflation to stability involves a short term loss (associated higher unemployment rate required to reduce the inflation) and results a series welfare all future years. The primary source these gains is the reduction the distortions that result from the interaction tax rules and inflation. The paper quantifies the gains associated with reducing the distortion favor current consumption rather than future consumption and in favor the consumption owner occupied housing. These tax effects are much larger than effect on the demand for money that is generally emphasized studies the distorting effect of inflation. The seignorage gains are also small comparison to other effects the tax-inflation interaction. The estimates imply that the annual value the net benefits going from two percent inflation to stability are about one percent GDP. Discounting this growing stream benefits at a real discount rate five percent implies a net present value about more than 30 percent GDP. All estimates the short-run cost going from low inflation to price stability are less than this.