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Inflation crises and long-run growth

  • Bruno, Michael
  • Easterly, William

Recent literature suggests that long-run averages of growth and inflation are only weakly correlated and that such correlation is not robust to the exclusion of observations of extreme inflation. Including time series panel data has improved matters, but an aggregate parametric approach remains inconclusive. The authors propose a nonparametric definition of high-inflation crises as"periods when annual inflation is above 40 percent."Excluding countries with high-inflation crises, they find no evidence of a consistent relationship between growth and inflation, at any frequency. They do find that growth falls sharply during discrete crises of high inflation, then recovers surprisingly strongly after inflation. The fall in growth during a crisis and the recovery of growth after the crisis tend to average out to nearly zero (even slightly above zero); hence no robust cross-section correlation. Their findings could be consistent either with trend stationarity of output (in which inflation crises are purely cyclical phenomena) or with models in which crises have a favorable long-run purgative effect. Their findings do not support the view that reducing high inflation carries heavy output costs in the short to medium run.

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Paper provided by The World Bank in its series Policy Research Working Paper Series with number 1517.

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Date of creation: 30 Sep 1995
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Handle: RePEc:wbk:wbrwps:1517
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