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Rebalancing Frequency and the Welfare Cost of Inflation

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  • Andr� C. Silva

Abstract

Cash-in-advance models usually require agents to reallocate money and bonds in fixed periods. Every month or quarter, for example. I show that fixed periods underestimate the welfare cost of inflation. I use a model in which agents choose how often they exchange bonds for money. In the benchmark specification, the welfare cost of 10 percent instead of 0 inflation increases from 0.1 percent of income with fixed periods to 1 percent with optimal periods. The results are robust to different preferences, to different compositions of income in bonds or money, and to the introduction of capital and labor. (JEL: E30, E40, E50)

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File URL: http://www.aeaweb.org/articles.php?doi=10.1257/mac.4.2.153
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Bibliographic Info

Article provided by American Economic Association in its journal American Economic Journal: Macroeconomics.

Volume (Year): 4 (2012)
Issue (Month): 2 (April)
Pages: 153-83

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Handle: RePEc:aea:aejmac:v:4:y:2012:i:2:p:153-83

Note: DOI: 10.1257/mac.4.2.153
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  1. Lawrence J. Christiano & Martin Eichenbaum & Charles Evans, 1994. "The effects of monetary policy shocks: evidence from the Flow of Funds," Working Paper Series, Macroeconomic Issues 94-2, Federal Reserve Bank of Chicago.
  2. Rubens Penha Cysne, 2001. "Divisia Index, Inflation and Welfare," Anais do XXIX Encontro Nacional de Economia [Proceedings of the 29th Brazilian Economics Meeting] 020, ANPEC - Associação Nacional dos Centros de Pósgraduação em Economia [Brazilian Association of Graduate Programs in Economics].
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  7. Bover, Olympia & Watson, Nadine, 2005. "Are there economies of scale in the demand for money by firms? Some panel data estimates," Journal of Monetary Economics, Elsevier, vol. 52(8), pages 1569-1589, November.
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  9. Jonathan Chiu, 2005. "Endogenously Segmented Asset Market in an Inventory Theoretic Model of Money Demand," 2005 Meeting Papers 108, Society for Economic Dynamics.
  10. Carlos E. da Costa & Iván Werning, 2008. "On the Optimality of the Friedman Rule with Heterogeneous Agents and Nonlinear Income Taxation," Journal of Political Economy, University of Chicago Press, vol. 116(1), pages 82-112, 02.
  11. Thomas W. Bates & Kathleen M. Kahle & Rene M. Stulz, 2006. "Why Do U.S. Firms Hold So Much More Cash Than They Used To?," NBER Working Papers 12534, National Bureau of Economic Research, Inc.
  12. Paola Boel & Gabriele Camera, 2009. "Financial Sophistication and the Distribution of the Welfare Cost of Inflation," Purdue University Economics Working Papers 1222, Purdue University, Department of Economics.
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  14. Ben Craig & Guillaume Rocheteau, 2006. "Inflation and welfare: a search approach," Policy Discussion Papers, Federal Reserve Bank of Cleveland, issue Jan.
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Cited by:
  1. Stephen M. Miller & Luis F. Martins & Rangan Gupta, 2014. "A Time-Varying Approach of the US Welfare Cost of Inflation," Working Papers 201419, University of Pretoria, Department of Economics.
  2. Andre C. Silva, 2011. "Individual and Aggregate Money Demands," FEUNL Working Paper Series wp557, Universidade Nova de Lisboa, Faculdade de Economia.
  3. Andre Silva & Bernardino Adao, 2012. "Debt Financing," 2012 Meeting Papers 577, Society for Economic Dynamics.
  4. Bernardino Adão & André C. Silva, 2012. "Welfare costs of inflation with distortionary taxation," Economic Bulletin and Financial Stability Report Articles, Banco de Portugal, Economics and Research Department.
  5. Michael Dotsey & Pablo Guerron-Quintana, 2012. "Interest rates and prices in an inventory model of money with credit," Working Papers 13-05, Federal Reserve Bank of Philadelphia.

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