Hyperinflation and Stabilization: Cagan Revisited
Using a variant of the Cagan model with rational expectations, this paper shows that expected stabilization can result in a budget deficit in excess of the maximum inflation tax. A cap on the deficit dampens inflation expectations and raises real balances, thus increasing the yield of the inflation tax for any given rate of inflation. This study extends the work of Drazen and Helpman (1990) by including a stochastic budgetary process and using option pricing theory. It uses parameter values of the semi-elasticity of demand for money to provide estimates of the maximum viable real deficit.
|Date of creation:||Nov 1996|
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- Paul Krugman & Marcus Miller, 1992. "Exchange Rate Targets and Currency Bands," NBER Books, National Bureau of Economic Research, Inc, number krug92-1.
- Avinash K. Dixit & Robert S. Pindyck, 1994. "Investment under Uncertainty," Economics Books, Princeton University Press, edition 1, volume 1, number 5474.
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- Loungani, Prakash & Sheets, Nathan, 1997.
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Blackwell Publishing, vol. 29(3), pages 381-99, August.
- Prakash Loungani & Nathan Sheets, 1995. "Central bank independence, inflation and growth in transition economies," International Finance Discussion Papers 519, Board of Governors of the Federal Reserve System (U.S.).
- Miller, Marcus & Zhang, Lei, 1994.
"Optimal Target Zones: How an Exchange Rate Mechanism Can Improve Upon Discretion,"
CEPR Discussion Papers
1031, C.E.P.R. Discussion Papers.
- Miller, Marcus & Zhang, Lei, 1996. "Optimal target zones: How an exchange rate mechanism can improve upon discretion," Journal of Economic Dynamics and Control, Elsevier, vol. 20(9-10), pages 1641-1660.
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