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On the Welfare Cost of Inflation: The Case of Pakistan

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  • Siffat Mushtaq

    (International Islamic University, Islamabad)

  • Abdul Rashid

    (International Islamic University, Islamabad)

  • Abdul Qayyum

    (Pakistan Institute of Development Economics, Islamabad)

Abstract

In this paper, we quantify welfare costs of inflation for Pakistan for the period 1960-2007 using semi-log and double-log money demand functions. We find that the welfare gain of moving from positive inflation to zero inflation is approximately the same under both money demand specifications but the behaviour of the two models is fairly different towards low interest rates. Moving from zero inflation to zero nominal interest rate has a substantial gain under double-log form compared to the semi-log function. The compensating variation approach for the semi-log model gives higher welfare loss figures compared to Bailey’s approach. However, the two approaches yield approximately the same welfare cost of inflation for the double-log specification.

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Bibliographic Info

Article provided by Pakistan Institute of Development Economics in its journal The Pakistan Development Review.

Volume (Year): 51 (2012)
Issue (Month): 1 ()
Pages: 61-96

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Handle: RePEc:pid:journl:v:51:y:2012:i:1:p:61-96

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Keywords: Monetary Policy; Inflation; Interest Rate; Welfare Costs; Money Demand Functions;

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  1. Qayyum, Abdul, 2005. "Modelling the Demand for Money in Pakistan," MPRA Paper 2057, University Library of Munich, Germany, revised 2005.
  2. Syed Muhammad Tariq & Kent Matthews, 1997. "The Demand for Simple-sum and Divisia Monetary Aggregates for Pakistan: A Cointegration Approach," The Pakistan Development Review, Pakistan Institute of Development Economics, vol. 36(3), pages 275-291.
  3. Kiyotaki, Nobuhiro & Wright, Randall, 1989. "On Money as a Medium of Exchange," Journal of Political Economy, University of Chicago Press, vol. 97(4), pages 927-54, August.
  4. Cooley, Thomas F & Hansen, Gary D, 1991. "The Welfare Costs of Moderate Inflations," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 23(3), pages 483-503, August.
  5. Barro, Robert J, 1972. "Inflationary Finance and the Welfare Cost of Inflation," Journal of Political Economy, University of Chicago Press, vol. 80(5), pages 978-1001, Sept.-Oct.
  6. Martha López, 2000. "Seigniorage And The Welfare Cost Of Inflation In Colombia," BORRADORES DE ECONOMIA 003488, BANCO DE LA REPÚBLICA.
  7. Abdul Qayyum, 2001. "Sectoral Analysis of the Demand for Real Money Balances in Pakistan," The Pakistan Development Review, Pakistan Institute of Development Economics, vol. 40(4), pages 953-966.
  8. Mohsin S. Khan & Axel Schimmelpfennig, 2006. "Inflation in Pakistan," The Pakistan Development Review, Pakistan Institute of Development Economics, vol. 45(2), pages 185-202.
  9. Khan, Rana Ejaz Ali & Hye, Qazi Muhammad Adnan, 2011. "Financial Liberalization And Demand For Money: A Case of Pakistan," MPRA Paper 34795, University Library of Munich, Germany.
  10. Abdul Qayyum, 2006. "Money, Inflation, and Growth in Pakistan," The Pakistan Development Review, Pakistan Institute of Development Economics, vol. 45(2), pages 203-212.
  11. Qayyum, Abdul, 2000. "Demand for Real Money Balances by the Business Sector: An Econometric Investigation," MPRA Paper 2156, University Library of Munich, Germany, revised 2000.
  12. Gillman, Max, 1993. "The welfare cost of inflation in a cash-in-advance economy with costly credit," Journal of Monetary Economics, Elsevier, vol. 31(1), pages 97-115, February.
  13. 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.
  14. Qayyum, Abdul, 1998. "Error Correction Model of the Demand for Money in Pakistan," MPRA Paper 2582, University Library of Munich, Germany, revised 1998.
  15. Tower, Edward, 1971. "More on the Welfare Cost of Inflationary Finance," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 3(4), pages 850-60, November.
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