Welfare Cost Of Inflation Research Articles

Payments Systems with Random Matching and Private Information

A model of dynamic risk-sharing is constructed where agents meet pairwise and at random, and there is private information about endowments. Risk sharing is accomplished through dynamic contracts involving credit transactions and through monetary exchange. A Friedman rule is optimal, and solutions are computed. The welfare costs of inflation and the effects of inflation on the distribution of consumption and wealth are small for an economy calibrated to U.S. data. However, these effects are large when the credit system is relatively unsophisticated.

Endogenous growth and the welfare costs of inflation: a reconsideration

Abstract Many economists share the view that the welfare costs of moderate rates of money growth-cum-inflation are generally modest or small. This paper investigates the sensitivity of this result to alternative model specifications and behavioral assumptions. We first construct a monetary endogenous growth model with Romer's (1986) style of capital externality, and find that the real growth rate effect is substantially large, thus lending to much higher welfare costs than those in existing studies. To investigate the robustness of the result, we then conduct a series of experiments, by exploring the Romer model with an alternative specification of money demand and a class of other endogenous growth models. It is demonstrated, quite consistently, that our finding is confirmed in these models.

The welfare cost of inflation in general equilibrium

This paper presents a general equilibrium monetary model in which inflation distorts a variety of marginal decisions. Although individually none of the distortions is very large, they combine to yield substantial welfare cost estimates. A sustained 4 percent inflation like that experienced in the US since 1983 costs the economy the equivalent of 0.41 percent of output per year when currency is identified as the relevant definition of money and over 1 percent of output per year when M1 is defined as money. The results illustrate how the traditional, partial equilibrium approach can seriously underestimate the true cost of inflation.

COMPARING PARTIAL AND GENERAL EQUILIBRIUM ESTIMATES OF THE WELFARE COST OF INFLATION

Reserve banks worldwide have been moving towards zero inflation policies. Confusion clouds the welfare cost of maintaining such inflation policies despite the best attempts at clarification. Monetary theory research has shifted from partial to general equilibrium economies. This shift has left the partial equilibrium estimates of the welfare cost of inflation below most of the general equilibrium estimates. Put on a comparable basis, partial equilibrium estimates compare more closely with the general equilibrium estimates. Furthermore, evidence suggests that integration under the money demand function appears applicable in general equilibrium economies. Finally, the estimates depend on the elasticities of money demand and the underlying structural parameters.

The welfare cost of inflation in a cash-in-advance economy with costly credit

The paper presents a modification of the Lucas-Stokey (1983) cash-in-advance economy in which the representative consumer decides, based on relative prices, which goods to buy with cash and which with costly credit. An explicit Baumol (1952) condition emerges that guides this consumer choice. Deriving and estimating a closed-form welfare cost function in an example economy, the paper shows that the welfare cost of inflation depends on the margins of substitution. The consumer avoids inflation through costly credit and faces higher welfare costs of inflation than in standard cash-in-advance economies.

Fiscal Revenue, Inflationary Finance and Growth

This paper analyzes the optimal rate of monetary expansion when government resorts to inflationary finance to generate additional investment for enhancing growth. If there are lags in tax collection, an increase in inflation erodes real fiscal revenue, thereby worsening the current balance while reducing government investment. This impedes capital accumulation as well as increases the welfare cost of inflation. As such, the optimal rate of monetary expansion, equilibrium capital-labor ratio and output are lower while the marginal cost of inflationary finance is higher than they would be without collection lags. Simulations are performed to highlight empirical implications.

Welfare Costs of Inflation, Seigniorage, and Financial Innovation

The welfare effects of mitigating the costs of inflation are examined. In a model where money reduces transactions costs, a fall in inflation costs is equivalent to financial innovation. This can be caused by paying interest on deposits, indexing money, or “dollarizing.” Results indicate that financial innovation raises welfare in low-inflation economies while reducing it in high-inflation economies because of the offsetting indirect effect of higher inflation to finance the budget.

Welfare Costs of Inflation, Seigniorage, and Financial Innovation

This paper examines the welfare effects of mitigating the costs of inflation. In a simple model where money reduces transaction costs, a fall in the costs of inflation is equivalent to financial innovation. This can be caused by paying interest on deposits, indexing money, or “dollarizing.” Results indicate that financial innovation raises welfare in low inflation economies while reducing it in high inflation economies, due to the offsetting indirect effect of higher inflation to finance the budget.

Welfare Costs of Inflation, Seigniorage, and Financial innovation

This paper examines the welfare effects of mitigating the costs of inflation. In a simple model where money reduces transaction costs, a fall in the costs of inflation is equivalent to financial innovation. This can be caused by paying interest on deposits, indexing money, or “dollarizing.” Results indicate that financial innovation raises welfare in low inflation economies while reducing it in high inflation economies, due to the offsetting indirect effect of higher inflation to finance the budget.

Is Non-Monetarist Arithmetic Just as Unpleasant?

What should the central bank do if the fiscal authority persists in running a deficit? If the monetarist policy prescription of bond financing deficits is adopted, McCallum [8] and others have shown that the real growth rate must exceed the after-tax real interest rate if macroeconomic instability is to be avoided. Analysts such as Miller and Sargent [10] and Burbidge [1] doubt whether this condition is met and thus argue in favor of greater flexibility in the rate of monetary growth. But will that lead to instability as well? Is the requirement for a unique solution and macroeconomic convergence just as stringent under the non-monetarist option of money-financed deficits? If so, monetarists can deflect criticism of their financing option from those who argue money financing is preferred on feasibility grounds. This paper addresses this question and concludes that money financing involves much more pleasant arithmetic than does bond financing. Analysis is given for both closed and small open economies. Considering what is available in the existing literature, the open economy extension may be the most important contribution of the paper. In addition to addressing the feasibility of alternative financing options, we use the model to comment on the welfare cost of inflation in an open economy environment. The feasibility of money-financed deficits has recently drawn renewed attention among macroeconomists. Erbas [2], using a model which imposes the Ricardian equivalence hypothesis and assumes no growth, concludes that money financing is preferred as an automatic stabilizer as it offers greater short-run stability of the level of income. Scarth [14] comes to the same conclusion using a model which does not impose the Ricardian equivalence hypothesis but which allows economic growth. Liviatan [6] and Mitchell [11] investigate the feasibility of bond and money financing using long-run models of a closed economy in which government bonds constitute a part of net wealth. In this paper we consider both open and closed economy long-run models, and we adopt the Ricardian equivalence hypothesis. We emphasize Ricardian equivalence since most monetarists are comfortable with this assumption. Thus unlike the previous long-run studies, we examine the feasibility of monetarist versus non-monetarist financing options using a model acceptable to most monetarists. This is important when the results do not support monetarism. The remainder of the paper is organized as follows. The closed economy analysis is given in section II, the open economy case is discussed in section III and concluding remarks are contained in section IV.

Macroeconomic Dynamics and Growth in a Monetary Economy: A Synthesis

THE DEVELOPMENT OF MONETARY GROWTH MODELS is a topic that has been receiving increasing attention from monetary economists since the appearance of Tobin's seminal paper [28]; see, e.g., [24, 25, 14, 5]. In the main, this literature is based on the simplest dynamic models, in which only relatively simple portfolio decisions can be made. Money is usually the only financial asset, so that only a limited range of government policies can be considered. One notable exception to this is [7], in which the government issues both an interest-earning bond and money. Within this framework, most of the discussion has focused on the steady-state properties of the system, dealing with such questions as the impact of an increase in the rate -of monetary growth on the capital-labor ratio, per capita real money balances, per capita consumption, and the equilibrium rate of inflation. Closely related to this topic is a body of literature dealing with such issues as the welfare costs of inflation and the determination of the optimal rate of monetary expansion; see [1, 18, 29, 16, 17, 2, 7, 22, 11]. The approaches adopted in these two areas share many common features and the traditional monetary growth model developed by Tobin [28] can be easily adapted to consider both sets of questions.l

Recent developments in monetary theory

This paper surveys recent work in monetary theory, with primary emphasis on material that has appeared since the writing of Harry Johnson's 1962 survey. The discussion deals with the following topics: (1) the theory of money demand, with special attention to inventory approaches; (2) money, inflation and growth; (3) the welfare cost of inflation, the optimum quantity of money, and inflationary finance; (4) disequilibrium theory; (5) the general equilibrium approach to monetary theory; (6) the new microfoundations of money; and (7) rational expectations and the Phillips Curve.

Inflationary Finance and the Welfare Cost of Inflation

Previous articleNext article No AccessInflationary Finance and the Welfare Cost of InflationRobert J. BarroRobert J. Barro Search for more articles by this author PDFPDF PLUS Add to favoritesDownload CitationTrack CitationsPermissionsReprints Share onFacebookTwitterLinkedInRedditEmail SectionsMoreDetailsFiguresReferencesCited by Journal of Political Economy Volume 80, Number 5Sep. - Oct., 1972 Article DOIhttps://doi.org/10.1086/259946 Views: 22Total views on this site Citations: 29Citations are reported from Crossref Copyright 1972 The University of ChicagoPDF download Crossref reports the following articles citing this article:Pavle Petrovic, Zorica Mladenovic Explosive behavior and rational bubbles: Evidence from the Serbian hyperinflation at daily frequency, Panoeconomicus 69, no.33 (Jan 2022): 481–492.https://doi.org/10.2298/PAN2203481PStephen Matteo Miller, Thandinkosi Ndhlela Money demand and seignorage maximization before the end of the Zimbabwean dollar, Journal of Macroeconomics 63 (Mar 2020): 103186.https://doi.org/10.1016/j.jmacro.2019.103186 Government: Public Finance, (Jan 2019): 47–47.https://doi.org/10.1017/9781316479780.003Stephen Matteo Miller, Thandinkosi Ndhlela Money Demand and Seignorage Maximization before the End of the Zimbabwean Dollar, SSRN Electronic Journal (Jan 2019).https://doi.org/10.2139/ssrn.3329378Murat A. 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