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Inflation, output, and welfare

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Author Info
Ricardo Lagos
Guillaume Rocheteau

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Abstract

This paper studies the effects of anticipated inflation on aggregate output and welfare within a search-theoretic framework. We allow money-holders to choose the intensities with which they search for trading partners, so inflation affects the frequency of trade as well as the quantity of output produced in each trade. We consider the standard pricing mechanism for search models, i.e., ex-post bargaining, as well as a notion of competitive pricing. If prices are bargained over, the equilibrium is generically inefficient and an increase in inflation reduces buyers’ search intensities, output, and welfare. If prices are posted and buyers can direct their search, search intensities are increasing with inflation for low inflation rates and decreasing for high inflation rates. The Friedman rule achieves the first best allocation and inflation always reduces welfare even though it can have a positive effect on output for low inflation rates.

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Paper provided by Federal Reserve Bank of Cleveland in its series Working Paper with number 0407.

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Date of creation: 2004
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Handle: RePEc:fip:fedcwp:0407

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Keywords: Inflation (Finance);

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This paper has been announced in the following NEP Reports: References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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  3. Green, Edward J. & Zhou, Ruilin, 1998. "A Rudimentary Random-Matching Model with Divisible Money and Prices," Journal of Economic Theory, Elsevier, vol. 81(2), pages 252-271, August. [Downloadable!] (restricted)
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  4. Robert E. Lucas, Jr., 2000. "Inflation and Welfare," Econometrica, Econometric Society, vol. 68(2), pages 247-274, March.
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  8. Bullard, James & Keating, John W., 1995. "The long-run relationship between inflation and output in postwar economies," Journal of Monetary Economics, Elsevier, vol. 36(3), pages 477-496, December. [Downloadable!] (restricted)
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  10. Shi Shougong, 1995. "Money and Prices: A Model of Search and Bargaining," Journal of Economic Theory, Elsevier, vol. 67(2), pages 467-496, December. [Downloadable!] (restricted)
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  11. Trejos, Alberto & Wright, Randall, 1995. "Search, Bargaining, Money, and Prices," Journal of Political Economy, University of Chicago Press, vol. 103(1), pages 118-41, February. [Downloadable!] (restricted)
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  13. Moen, Espen R, 1997. "Competitive Search Equilibrium," Journal of Political Economy, University of Chicago Press, vol. 105(2), pages 385-411, April.
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  14. Lucas, Robert Jr. & Prescott, Edward C., 1974. "Equilibrium search and unemployment," Journal of Economic Theory, Elsevier, vol. 7(2), pages 188-209, February. [Downloadable!] (restricted)
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  18. Kocherlakota, Narayana R., 1998. "Money Is Memory," Journal of Economic Theory, Elsevier, vol. 81(2), pages 232-251, August. [Downloadable!] (restricted)
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  19. Li, Victor E, 1995. "The Optimal Taxation of Fiat Money in Search Equilibrium," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 36(4), pages 927-42, November. [Downloadable!] (restricted)
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  21. 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. [Downloadable!] (restricted)
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  24. Li, Victor E, 1997. "The Efficiency of Monetary Exchange in Search Equilibrium," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 29(1), pages 61-72, February.
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Full references

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  1. repec:bep:macadv:v:6:y:2006:i:1:p:1313-1313 is not listed on IDEAS
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  2. Andolfatto, David, 2007. "Essential Interest-Bearing Money," MPRA Paper 4780, University Library of Munich, Germany. [Downloadable!]
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  3. Aleksander Berentsen & Christopher J. Waller, 2009. "Optimal stabilization policy with endogenous firm entry," Working Papers 2009-032, Federal Reserve Bank of St. Louis. [Downloadable!]
  4. Huberto M. Ennis, 2007. "Avoiding the inflation tax," Working Paper 07-06, Federal Reserve Bank of Richmond. [Downloadable!]
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  5. David Andolfatto, 2007. "Incentives and the Limits to Deflationary Policy," Discussion Papers dp07-14, Department of Economics, Simon Fraser University. [Downloadable!]
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  6. Tai-wei Hu & John Kennan & Neil Wallace, 2007. "Coalition-Proof Trade and the Friedman Rule in the Lagos-Wright Model," NBER Working Papers 13310, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  7. K. Vela Velupillai, 2008. "The Mathematization of Macroeconomics: A Recursive Revolution," Department of Economics Working Papers 0807, Department of Economics, University of Trento, Italia. [Downloadable!]
  8. KOBAYASHI Keiichiro, 2009. "Asset-Price Collapse and Market Disruption - A model of financial crises -," Discussion papers 09045, Research Institute of Economy, Trade and Industry (RIETI). [Downloadable!]
  9. Ricardo Lagos, 2008. "The Research Agenda: Ricardo Lagos on Liquidity and the Search Theory of Money," EconomicDynamics Newsletter, Review of Economic Dynamics, vol. 10(1), November. [Downloadable!]
  10. Aleksander Berentsen & Christopher Waller, 2008. "Outside Versus Inside Bonds," IEW - Working Papers iewwp372, Institute for Empirical Research in Economics - IEW. [Downloadable!]
  11. Aleksander Berentsen & Gabriele Camera & Christopher Waller, 2005. "Money, Credit and Banking," CESifo Working Paper Series CESifo Working Paper No. , CESifo Group Munich. [Downloadable!]
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