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Composition of Portfolio and Cost of Inflation

Listed author(s):
  • Manjong Lee

    ()

    (Department of Economics, Korea University, Seoul, Republic of Korea)

  • Sung Guan Yun

    ()

    (Payment and Settlement Systems Department, Bank of Korea, Republic of Korea)

Registered author(s):

The welfare cost of inflation is explored via a search-theoretic model in which along with non-interest-bearing cash, interest-bearing liquid and illiquid assets are available. With inflation, agents are willing to replace higher-return illiquid assets with lower return liquid assets for consumption purchases. The opportunity cost incurred by this adjustment turns out to have quantitatively significant implications on the cost of inflation. A parameterized version of the model suggests that the cost of 10% inflation with liquid and illiquid interest-bearing assets is almost 3 times larger than that in a cash-only model. This implies that most existing measures of inflation cost with narrow money are substantially underestimated.

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File URL: http://econ.korea.ac.kr/~ri/WorkingPapers/w1403.pdf
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Paper provided by Institute of Economic Research, Korea University in its series Discussion Paper Series with number 1403.

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Date of creation: 2014
Handle: RePEc:iek:wpaper:1403
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