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Government Intervention in the Inflation Process: The Econometrics of "Self-Inflicted Wounds"

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  • Jon Frye
  • Robert J. Gordon

Abstract

This paper presents a single reduced-form inflation equation that can explain both the variance and acceleration of inflation during the 1970s.Inflation is explained by four sets of factors. Aggregate demand enters through the lagged output ratio and the growth rate of nominal GNP. The adjustment of inflation to changes in aggregate demand is limited by the role of inertia in the inflation process, expressed as the dependence of the rate of change of prices on its own past values. Two types of supply-side elements enter. Government intervention directly altered the price level during the Nixon control era, and in addition the government has aggravated the inflation problem by what have been called "self-inflicted wounds," including increases in the effective social security tax rate and effective minimum wage. Also there have been external supply shocks that are outside of the immediate control of the government, including changes in the relative prices of food and energy, changes in the growth rate of productivity, and changes in the foreign exchange value of the dollar. Considerable attention is given to alternative methods of estimating the impact of direct episodes of government intervention In the price-setting process, particularly during the Nixon controls. We find that such episodes have been futile. Because of their futility, these intervention episodes can be regarded as "self-inflicted wounds," like the payroll tax and minimum wage changes that normally are described by this term.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 0550.

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Date of creation: Sep 1980
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Publication status: published as Frye, Jon and Gordon, Robert J. "Government Intervention in the Inflation Process: The Econometrics of 'Self-Inflicted Wounds.'" The American Economic Review, Vol. 71, No. 2, (May 1981), pp. 288-294.
Handle: RePEc:nbr:nberwo:0550

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  1. Robert J. Barro & Mark Rush, 1980. "Unanticipated Money and Economic Activity," NBER Chapters, in: Rational Expectations and Economic Policy, pages 23-73 National Bureau of Economic Research, Inc.
  2. Robert J. Gordon, 1973. "The Responses of Wages and Prices to the First Two Years of Controls," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 4(3), pages 765-780.
  3. Oi, Walter Y., 1976. "On measuring the impact of wage-price controls: A critical appraisal," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 2(1), pages 7-64, January.
  4. Alan S. Blinder & William J. Newton, 1981. "The 1971-1974 Controls Program and The Price Level: An Econometric Post-Mortem," NBER Working Papers 0279, National Bureau of Economic Research, Inc.
  5. Jon Frye & Robert J. Gordon, 1980. "The Variance and Acceleration of Inflation in the 1970s: Alternative Explanatory Models and Methods," NBER Working Papers 0551, National Bureau of Economic Research, Inc.
  6. Perloff, Jeffrey M. & Wachter, Michael L., 1979. "A production function--nonaccelerating inflation approach to potential output : Is measured potential output too high?," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 10(1), pages 113-163, January.
  7. Feige, Edgar L. & Pearce, Douglas K., 1976. "Inflation and incomes policy: An application of time series models," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 2(1), pages 273-302, January.
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Cited by:
  1. Sara Lemos, 2004. "The Effects of the Minimum Wage on Prices in Brazil," Labor and Demography, EconWPA 0403011, EconWPA.
  2. Nguyen, Cuong, 2012. "Do Minimum Wages Affect Firms’ Labor and Capital? Evidence from Vietnam," MPRA Paper 48656, University Library of Munich, Germany.
  3. Lemos, Sara, 2004. "The Effect of the Minimum Wage on Prices," IZA Discussion Papers 1072, Institute for the Study of Labor (IZA).
  4. Nguyen, Cuong, 2011. "Do Minimum Wage Increases Cause Inflation? Evidence from Vietnam," MPRA Paper 36750, University Library of Munich, Germany.
  5. Gordon, Robert J, 1982. "Price Inertia and Policy Ineffectiveness in the United States, 1890-1980," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 90(6), pages 1087-1117, December.
  6. Robert J. Gordon, 1981. "Why U.S. Wage and Employment Behavior Differs from That in Britain and Japan," NBER Working Papers 0809, National Bureau of Economic Research, Inc.
  7. Christine Garnier & Elmar Mertens & Edward Nelson, 2013. "Trend inflation in advanced economies," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 2013-74, Board of Governors of the Federal Reserve System (U.S.).

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