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Welfare costs of inflation when interest-bearing deposits are disregarded: A calculation of the bias

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  • Cysne, Rubens Penha
  • Turchick, David

Abstract

Most estimates of the welfare costs of inflation are devised considering only noninterest-bearing assets, ignoring that since the 1980s technological innovations and new regulations have increased the liquidity of interest-bearing deposits. We investigate the resulting bias. Sufficient and necessary conditions on its sign are presented, along with closed-form expressions for its magnitude. Two examples dealing with bidimensional bilogarithmic money demands show that disregarding interest-bearing monies may lead to a non-negligible overestimation of the welfare costs of inflation. An intuitive explanation is that such assets may partially make up for the decreased demand of noninterest-bearing assets due to higher inflation.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

Volume (Year): 34 (2010)
Issue (Month): 6 (June)
Pages: 1015-1030

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Handle: RePEc:eee:dyncon:v:34:y:2010:i:6:p:1015-1030

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Web page: http://www.elsevier.com/locate/jedc

Related research

Keywords: Welfare Inflation Money demand Divisia index Interest-bearing monies;

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References

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  1. Cysne, Rubens Penha & Turchick, David, 2012. "An Ordering Of Measures Of The Welfare Cost Of Inflation In Economies With Interest-Bearing Deposits," Macroeconomic Dynamics, Cambridge University Press, vol. 16(05), pages 732-751, November.
  2. Bali, Turan G., 2000. "U.S. money demand and the welfare cost of inflation in a currency-deposit model," Journal of Economics and Business, Elsevier, vol. 52(3), pages 233-258.
  3. 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].
  4. Husted, Steven & Rush, Mark, 1984. "On measuring the nearness of near moneys revisited," Journal of Monetary Economics, Elsevier, vol. 14(2), pages 171-181, September.
  5. Orazio Attanasio & Luigi Guiso & Tuillo Jappelli, 1998. "The Demand for Money, Financial Innovation, and the Welfare Cost of Inflation: An Analysis with Household Data," NBER Working Papers 6593, National Bureau of Economic Research, Inc.
  6. Jones, Barry & Asaftei, Gabriel & Wang, Lian, 2004. "Welfare Cost Of Inflation In A General Equilibrium Model With Currency And Interest-Bearing Deposits," Macroeconomic Dynamics, Cambridge University Press, vol. 8(04), pages 493-517, September.
  7. Martin S. Feldstein, 1997. "The Costs and Benefits of Going from Low Inflation to Price Stability," NBER Chapters, in: Reducing Inflation: Motivation and Strategy, pages 123-166 National Bureau of Economic Research, Inc.
  8. Garcia, Gillian & Pak, Simon, 1979. "Some Clues in the Case of the Missing Money," American Economic Review, American Economic Association, vol. 69(2), pages 330-34, May.
  9. Peter N. Ireland, 2009. "On the Welfare Cost of Inflation and the Recent Behavior of Money Demand," American Economic Review, American Economic Association, vol. 99(3), pages 1040-52, June.
  10. Simonsen, Mario Henrique & Cysne, Rubens Penha, 2001. "Welfare Costs of Inflation and Interest-Bearing Money," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 33(1), pages 90-100, February.
  11. Cysne, Rubens Penha & Turchick, David, 2009. "On the integrability of money-demand functions by the Sidrauski and the shopping-time models," Journal of Banking & Finance, Elsevier, vol. 33(9), pages 1555-1562, September.
  12. Pedro Teles & Ruilin Zhou, 2005. "A stable money demand: Looking for the right monetary aggregate," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q I, pages 50-63.
  13. Gauger, Jean, 1992. "Portfolio Redistribution Impacts within the Narrow Monetary Aggregate," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 24(2), pages 239-57, May.
  14. Marquis, Milton-H, 1999. "The Joint and Several Effects of Liquidity Constraints, Financing Constraints, and Financial Intermediation on the Welfare Cost of Inflation," Monetary and Economic Studies, Institute for Monetary and Economic Studies, Bank of Japan, vol. 17(2), pages 1-20, August.
  15. Boughton, James M., 1981. "Money and its substitutes," Journal of Monetary Economics, Elsevier, vol. 8(3), pages 375-386.
  16. Casey B. Mulligan & Xavier Sala-i-Martin, 2000. "Extensive Margins and the Demand for Money at Low Interest Rates," Journal of Political Economy, University of Chicago Press, vol. 108(5), pages 961-991, October.
  17. Robert E. Lucas, Jr., 2000. "Inflation and Welfare," Econometrica, Econometric Society, vol. 68(2), pages 247-274, March.
  18. Fisher, Douglas, 1992. "Money-Demand Variability: A Demand-Systems Approach," Journal of Business & Economic Statistics, American Statistical Association, vol. 10(2), pages 143-51, April.
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Citations

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Cited by:
  1. Cysne, Rubens Penha, 2011. "The n-Dimensional Bailey-Divisia Measure as a General-Equilibrium Measure of the Welfare Costs of Inflation," Economics Working Papers (Ensaios Economicos da EPGE) 720, FGV/EPGE Escola Brasileira de Economia e Finanças, Getulio Vargas Foundation (Brazil).
  2. Calza, Alessandro & Zaghini, Andrea, 2011. "Welfare costs of inflation and the circulation of US currency abroad," Working Paper Series 1326, European Central Bank.
  3. Manjong Lee & Sung Guan Yun, 2014. "Composition of Portfolio and Cost of Inflation," Discussion Paper Series 1403, Institute of Economic Research, Korea University.
  4. Michael T. Belongia & Peter N. Ireland, 2010. "The Barnett Critique After Three Decades: A New Keynesian Analysis," Boston College Working Papers in Economics 736, Boston College Department of Economics.

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