IDEAS home Printed from https://ideas.repec.org/p/pra/mprapa/97092.html
   My bibliography  Save this paper

Inflation and Growth: An Inverted-U Relationship

Author

Listed:
  • He, Qichun
  • Zhang, Zhixiang

Abstract

This study explores a novel channel for monetary policy to impact growth and welfare---a cash-in-advance constraint on R&D combined with R&D subsidies by seigniorage tax. In a scale-invariant Schumpeterian growth model, growth is an inverted-U function of the inflation rate. Friedman rule is suboptimal (optimal) when the elasticity of labor supply is low (high). By contrast, the inverted-U relation does not exist when R&D is subsidized by other taxes or in an AK model. Calibration confirms our prediction and finds that the growth and welfare effects of inflation are large. Using panel data for 154 countries during 1970--2014, both non-parametric cubic spline and parametric regressions show that growth is an inverted-U function of the inflation rate in samples with an annual inflation rate below 30%. The cutoff point for inflation to have a zero marginal effect on growth is around 5% in ordinary least squares estimation and 3% in instrumental variables (IV) estimation. We also find that the share of labor employed in R&D---rather than the physical capital investment rate---is an inverted-U function of inflation in IV estimation. Our empirical evidence provides support for our theory.

Suggested Citation

  • He, Qichun & Zhang, Zhixiang, 2019. "Inflation and Growth: An Inverted-U Relationship," MPRA Paper 97092, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:97092
    as

    Download full text from publisher

    File URL: https://mpra.ub.uni-muenchen.de/97092/1/MPRA_paper_97092.pdf
    File Function: original version
    Download Restriction: no

    More about this item

    Keywords

    cash-in-advance constraint on R&D; government subsidies of R&D with seigniorage; inflation; growth; welfare; inverted-U; panel data;

    JEL classification:

    • E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers
    • O31 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights - - - Innovation and Invention: Processes and Incentives
    • O42 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - Monetary Growth Models

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:pra:mprapa:97092. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Joachim Winter). General contact details of provider: http://edirc.repec.org/data/vfmunde.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    We have no references for this item. You can help adding them by using this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.