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Inflation Non-neutralities and the Response of Interest Rates to Inflation Expectations

Author

Listed:
  • Laurence H. Meyer

    (Washington University)

  • Anandi P. Sahu

    (Oakland University)

Abstract

This paper develops a macroeconomic model of the response of interest rates to inflation expectations, with particular attention to the role of tax non-neutralities. Virtually all the well-known results in the theoretical literature hold as special cases of this model. Some suggestive empirical evidence is presented for the general case. Inflation drives a wedge between the real cost of capital to firms and the real return to savers. The inflation non-neutralities are shown to cause the real cost of capital to firms to rise, discouraging investment, and the after-tax real interest rate to savers to fall, discouraging saving. However, the magnitude of the effect on the cost of capital appears to be very small.

Suggested Citation

  • Laurence H. Meyer & Anandi P. Sahu, 1995. "Inflation Non-neutralities and the Response of Interest Rates to Inflation Expectations," Eastern Economic Journal, Eastern Economic Association, vol. 21(1), pages 67-81, Winter.
  • Handle: RePEc:eej:eeconj:v:21:y:1995:i:1:p:67-81
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    File URL: http://web.holycross.edu/RePEc/eej/Archive/Volume21/V21N1P67_81.pdf
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    More about this item

    Keywords

    Inflation; Interest Rates; Interest; Macroeconomics;

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects

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