In this paper we propose a simple and general model for computing the Ramsey optimal inflation tax, which includes several models from the previous literature as special cases. We show that it cannot be claimed that the Friedman rule is always optimal (or always non-optimal) on theoretical grounds. The Friedman rule is optimal or not, depending on conditions related to the shape of various relevant functions. One contribution of this paper is to relate these conditions to measurable variables such as the interest rate or the consumption elasticity of money demand. We find that it tends to be optimal to tax money when there are economies of scale in the demand for money (the scale elasticity is smaller than one) and/or when money is required for the payment of consumption or wage taxes. We find that it tends to be optimal to tax money more heavily when the interest elasticity of money demand is small. We present empirical evidence on the parameters that determine the optimal inflation tax. Calibrating the model to a variety of empirical studies yields an optimal nominal interest rate of less than 1% per year, although that finding is sensitive to the calibration.
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number
5954.
Length: Date of creation: Mar 1997 Date of revision: Publication status: published as Journal of Money, Credit and Banking (November 1997) part 2: 687-715. Handle: RePEc:nbr:nberwo:5954
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Find related papers by JEL classification: E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
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.:
Woodford, Michael, 1990.
"The optimum quantity of money,"
Handbook of Monetary Economics,
in: B. M. Friedman & F. H. Hahn (ed.), Handbook of Monetary Economics, edition 1, volume 2, chapter 20, pages 1067-1152
Elsevier.
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Robert D. Dittmar & William T. Gavin & Finn E. Kydland, 2005.
"Inflation Persistence And Flexible Prices,"
International Economic Review,
Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 46(1), pages 245-261, 02.
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