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Inflation, Unemployment and Economic Growth in a Schumpeterian Economy

  • Chu, Angus C.
  • Cozzi, Guido
  • Furukawa, Yuichi

This study analyzes the effects of inflation on the long-run nexus between unemployment and economic growth. We introduce money demand via a cash-in-advance (CIA) constraint on R&D investment into a scale-invariant Schumpeterian growth model with matching frictions in the labor market. Given the CIA constraint on R&D, a higher inflation that raises the opportunity cost of cash holdings leads to a decrease in innovation and economic growth, which in turn decreases labor-market tightness and increases unemployment. In summary, the model predicts a positive relationship between inflation and unemployment, a negative relationship between inflation and R&D, and a negative relationship between inflation and economic growth. These theoretical predictions are consistent with recent empirical evidence. Therefore, when inflation is a fundamental variable that affects the economy, unemployment and economic growth exhibit a negative relationship.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 50510.

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Date of creation: Oct 2013
Handle: RePEc:pra:mprapa:50510
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