Political Economy of Monetary and Budgetary Policy
Even though all debt and wage contracts are indexed, there is an incentive to levy a surprise inflation tax as this erodes the real value of debt service, permits a cut in the tax rate, and boosts private consumption. With rules it is optimal to smooth tax and seigniorage revenues. However, with discretion (associated with the Markov-perfect equilibrium) the government finances an increase in spending through additional interest income paid on assets that are generated through a temporary bout of inflation and taxation. The electorate prefers to appoint a central banker more concerned with inflation than the median voter. Copyright 1995 by Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association.
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Volume (Year): 36 (1995)
Issue (Month): 2 (May)
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