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The Portfolio Theory of Inflation and Policy (in)Effectiveness: Exploring it Further and Righting the Wrongs

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  • Bossone Biagio

    (Payment Systems Development Group, The World Bank, Rome, Italy)

Abstract

This article revisits the Portfolio Theory of Inflation (PTI) proposed in my original work published earlier (Bossone, B. (2019, 4 June). The portfolio theory of inflation and policy (in)effectiveness. Economics Journal, 1–25. Article No. 2019-33.), with a view to further articulate its findings and implications. The article adds to the micro- and macro-foundations of the PTI model of the economy, framing the portfolio choices of global investors more rigorously, providing richer analysis of their macroeconomic effects, and in the process also correcting errors contained in the original PTI formulation. The article explores additional dimensions of how capital allocation choices by global investors interact with government macro-policies, and further studies how such choices shape the space available to country authorities for active macro-policies. The article further evaluates the results from the revisited model on the dynamics of exchange rate, inflation, and output following macro-policy shocks, and appraises the implications of the PTI for macro-policy effectiveness when due consideration is given to stock variables, as opposed to flow variables only, in the context of highly internationally financially integrated economies. Finally, the article considers what is new about the PTI as a theory of inflation and clarifies some of its possible misinterpretations.

Suggested Citation

  • Bossone Biagio, 2022. "The Portfolio Theory of Inflation and Policy (in)Effectiveness: Exploring it Further and Righting the Wrongs," Economics - The Open-Access, Open-Assessment Journal, De Gruyter, vol. 16(1), pages 257-275, January.
    • Handle: RePEc:bpj:econoa:v:16:y:2022:i:1:p:257-275:n:3
    DOI: 10.1515/econ-2022-0032
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    References listed on IDEAS

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    3. Biagio Bossone, 2014. "Liquidity and capital under uncertainty and changing market sentiment: A simple analysis," Review of Financial Economics, John Wiley & Sons, vol. 23(2), pages 98-105, April.
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    5. John H. Cochrane, 2017. "Michelson-Morley, Fisher, and Occam: The Radical Implications of Stable Quiet Inflation at the Zero Bound," NBER Chapters, in: NBER Macroeconomics Annual 2017, volume 32, pages 113-226, National Bureau of Economic Research, Inc.
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    More about this item

    Keywords

    credibility; exchange rate; financial integration; global investor; inflation; intertemporal budget constraint; macro-policies;
    All these keywords.

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E4 - Macroeconomics and Monetary Economics - - Money and Interest Rates
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • H3 - Public Economics - - Fiscal Policies and Behavior of Economic Agents

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