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A Long-Run, Short-Run and Politico-Economic Analysis of the Welfare Costs of Inflation

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This paper assesses the long-run and short-run (i.e. along the transition path) welfare implications of permanent changes in inflation in an environment with essential money and perfectly competitive markets. The model delivers a monetary distribution that matches moments of the distribution seen in the US data. Although there is potential for wealth redistribution to deliver welfare gains from inflation, the (total) costs of 10 percent inflation relative to zero is over 7 percent of consumption. While these results suggest a dominating real-balance effect of inflation, a politico-economic analysis concludes that the prevailing (majority rule) inflation rate is above the Friedman Rule.

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File URL: http://repec.library.villanova.edu/workingpapers/VSBEcon16.pdf
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Paper provided by Villanova School of Business Department of Economics and Statistics in its series Villanova School of Business Department of Economics and Statistics Working Paper Series with number 16.

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Date of creation: Aug 2011
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Handle: RePEc:vil:papers:16

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Web page: http://www.villanova.edu/business/facultyareas/economics/
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Keywords: Inflation; Welfare; Transitions; Voting;

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  1. 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.
  2. Scott J. Dressler, 2009. "Money Holdings, Inflation, and Welfare in a Competitive Market," Villanova School of Business Department of Economics and Statistics Working Paper Series 2, Villanova School of Business Department of Economics and Statistics.
  3. Marimon, Ramon & Scott, Andrew (ed.), 1999. "Computational Methods for the Study of Dynamic Economies," OUP Catalogue, Oxford University Press, number 9780198294979, September.
  4. Bullard, James & Waller, Christopher J, 2004. "Central Bank Design in General Equilibrium," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 36(1), pages 95-113, February.
  5. Joydeep Bhattacharya & Helle Bunzel & Joseph Haslag, 2005. "The non-monotonic relationship between seigniorage and inequality," Canadian Journal of Economics, Canadian Economics Association, vol. 38(2), pages 500-519, May.
  6. Jonathan Chiu & Miguel Molico, 2008. "Uncertainty, Inflation, and Welfare," Working Papers 08-13, Bank of Canada.
  7. Camera, Gabriele & Corbae, Dean, 1999. "Money and Price Dispersion," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 40(4), pages 985-1008, November.
  8. Aleksander Berentsen & Gabriele Camera & Christopher Waller, 2005. "Money, Credit and Banking," CESifo Working Paper Series 1617, CESifo Group Munich.
  9. Erosa, Andres & Ventura, Gustavo, 2002. "On inflation as a regressive consumption tax," Journal of Monetary Economics, Elsevier, vol. 49(4), pages 761-795, May.
  10. Matthias Doepke & Martin Schneider, 2006. "Inflation and the Redistribution of Nominal Wealth," Journal of Political Economy, University of Chicago Press, vol. 114(6), pages 1069-1097, December.
  11. Ruilin Zhou, 1996. "Individual and Aggregate Real Balances in a Random Matching Model," GE, Growth, Math methods 9612001, EconWPA, revised 23 Dec 1996.
  12. Doepke, Matthias & Schneider, Martin, 2006. "Inflation as a Redistribution Shock: Effects on Aggregates and Welfare," CEPR Discussion Papers 5939, C.E.P.R. Discussion Papers.
  13. Miguel Molico, 2006. "The Distribution Of Money And Prices In Search Equilibrium," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 47(3), pages 701-722, 08.
  14. Edward J. Green & Ruilin Zhou, 2002. "Dynamic Monetary Equilibrium in a Random Matching Economy," Econometrica, Econometric Society, vol. 70(3), pages 929-969, May.
  15. Huggett, Mark, 1993. "The risk-free rate in heterogeneous-agent incomplete-insurance economies," Journal of Economic Dynamics and Control, Elsevier, vol. 17(5-6), pages 953-969.
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