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The Welfare Cost of Inflation Risk under Imperfect Insurance

Author

Listed:
  • Olivier Allais

    (INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement)

  • Yann Algan

    (Sciences Po - Sciences Po, CEPR - Center for Economic Policy Research)

  • Edouard Challe

    (Centre de Recherche en Économie et Statistique (CREST) - Groupe ENSAE-ENSAI - Groupe des Écoles Nationales d'Économie et Statistique, X - École polytechnique - IP Paris - Institut Polytechnique de Paris)

  • Xavier Ragot

    (OFCE - Observatoire français des conjonctures économiques (Sciences Po) - Sciences Po - Sciences Po)

Abstract

What are the costs of inflation fluctuations and who bears those costs? In this paper, we investigate this question by means of a quantitative incomplete-market, heterogenous-agent model wherein households hold real and nominal assets and are subject to both idiosyncratic labor income shocks and aggregate inflation risk. Inflation risk is found to generate significant welfare losses for most households, i.e., between 1 and 1.5 percent of permanent consumption. The loss is small or even negative for households at the very top of the productivity and/or wealth distribution. A key feature of our analysis is a nonhomothetic specification for households' preferences towards money and consumption goods. Unlike traditional specifications, ours allows the model to reproduce the broad features of the distribution of monetary assets (in addition to being consistent with the joint distribution of nonmonetary assets and consumption).

Suggested Citation

  • Olivier Allais & Yann Algan & Edouard Challe & Xavier Ragot, 2020. "The Welfare Cost of Inflation Risk under Imperfect Insurance," Sciences Po Economics Publications (main) hal-03275498, HAL.
    • Handle: RePEc:hal:spmain:hal-03275498
    DOI: 10.15609/annaeconstat2009.138.0001
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    Cited by:

    1. is not listed on IDEAS
    2. Curran, Michael & Dressler, Scott J., 2020. "Preferences, inflation, and welfare," European Economic Review, Elsevier, vol. 130(C).

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    Keywords

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    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E41 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Demand for Money

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