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Budget deficits and inflation feedback

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  • Sergey Pekarski

    ()
    (Centre for Advanced Studies and Laboratory for Macroeconomic Analysis, State University – Higher School of Economics, Moscow.)

Abstract

This paper contributes to the literature on budget deficits and inflation in high inflation economies. The main finding is that recurrent outbursts of extreme inflation in these economies can be explained by a certain hysteresis effect associated with public finance. This interpretation meets the evidence that dramatic shifts between regimes of moderately high and extremely high (hyper-) inflation often occur without visible deterioration in public finance or abrupt shifts in fiscal and monetary policies. The existence of the hysteresis effect is explicitly explained by the work of two mechanisms: the arithmetic associated with the wrong side of the inflation tax Laffer curve and the Patinkin effect (the reverse of the much more-cited Olivera-Tanzi effect). It is also shown that the division of the operational budget deficit into the part that is subject to negative inflation feedback and the inflation-proof part has implications for both the discussion of inflationary consequences of budget deficits and the proper design of stabilization policy.

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File URL: http://www.cas.hse.ru/Repec/pdf/WP13_2007_12.pdf
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Bibliographic Info

Paper provided by Laboratory for Macroeconomic Analysis in its series Working Papers with number WP13_2007_12.

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Length: 36 pages
Date of creation: Jan 2007
Date of revision:
Handle: RePEc:cas:wpaper:wp13_2007_12

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Keywords: budget deficit; high inflation; the Patinkin effect.;

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References

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  1. Arrau, Patricio & De Gregorio, Jose & Reinhart, Carmen M. & Wickham, Peter, 1995. "The demand for money in developing countries: Assessing the role of financial innovation," Journal of Development Economics, Elsevier, vol. 46(2), pages 317-340, April.
  2. Ugo Panizza, 2008. "Domestic And External Public Debt In Developing Countries," UNCTAD Discussion Papers 188, United Nations Conference on Trade and Development.
  3. Don Patinkin, 1993. "Israel's Stabilization Program of 1985, or Some Simple Truths of Monetary Theory," Journal of Economic Perspectives, American Economic Association, vol. 7(2), pages 103-128, Spring.
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  7. Óscar J. Arce, 2006. "Speculative hyperinflations: when can we rule them out?," Banco de Espa�a Working Papers 0607, Banco de Espa�a.
  8. Stanley Fischer & Ratna Sahay & Carlos A. V�gh, 2002. "Modern Hyper- and High Inflations," Journal of Economic Literature, American Economic Association, vol. 40(3), pages 837-880, September.
  9. Eliane A. Cardoso, 1998. "Virtual Deficits and the Patinkin Effect," IMF Working Papers 98/41, International Monetary Fund.
  10. Eliana Cardoso, 1998. "Virtual Deficits and the Patinkin Effect," IMF Staff Papers, Palgrave Macmillan, vol. 45(4), pages 619-646, December.
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  14. Catao, Luis A.V. & Terrones, Marco E., 2005. "Fiscal deficits and inflation," Journal of Monetary Economics, Elsevier, vol. 52(3), pages 529-554, April.
  15. Bruno, Michael, 1993. "Crisis, Stabilization, and Economic Reform: Therapy by Consensus," OUP Catalogue, Oxford University Press, number 9780198286639.
  16. Bruno, Michael & Fischer, Stanley, 1990. "Seigniorage, Operating Rules, and the High Inflation Trap," The Quarterly Journal of Economics, MIT Press, vol. 105(2), pages 353-74, May.
  17. Sargent, Thomas J & Wallace, Neil, 1973. "Rational Expectations and the Dynamics of Hyperinflation," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 14(2), pages 328-50, June.
  18. Rudiger Dornbusch & Ferico Sturzenegger & Holger Wolf, 1990. "Extreme Inflation: Dynamics and Stabilization," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 21(2), pages 1-84.
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Cited by:
  1. Jalil, Abdul & Tariq, Rabbia & Bibi, Nazia, 2014. "Fiscal deficit and inflation: New evidences from Pakistan using a bounds testing approach," Economic Modelling, Elsevier, vol. 37(C), pages 120-126.
  2. Magazzino, Cosimo, 2011. "The nexus between public expenditure and inflation in the Mediterranean countries," MPRA Paper 28493, University Library of Munich, Germany.

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