Hyperinflation, disinflation, deflation, etc.: A unified and micro-founded explanation for inflation

Harashima, Taiji (2007): Hyperinflation, disinflation, deflation, etc.: A unified and micro-founded explanation for inflation.

Abstract

In this paper, I present a unified and micro-founded explanation for various types of inflation without assuming ad hoc frictions or irrationality. The explanation is similar to the conventional inflation theory in the sense that an independent central bank can control inflation and also similar to the fiscal theory of the price level in the sense that a source of inflation lies in the behavior of government. Inflation accelerates or decelerates through the simultaneous optimization of a government and the representative household if their time preference rates are heterogeneous. This inflation acceleration mechanism will be prevented from working if a central bank is truly independent.

• Item Type: MPRA Paper
• Language: English
• Keywords: Hyperinflation; chronic inflation; disinflation; deflation; central bank independence; the fiscal theory of the price level
• Subjects: E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E58 - Central Banks and Their Policies; E - Macroeconomics and Monetary Economics > E3 - Prices, Business Fluctuations, and Cycles > E31 - Price Level ; Inflation ; Deflation; E - Macroeconomics and Monetary Economics > E6 - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook > E63 - Comparative or Joint Analysis of Fiscal and Monetary Policy ; Stabilization ; Treasury Policy

References

Ahearne, Alan G., Joseph E. Gagnon, Jane Haltmaier, and Steven B. Kamin. (2002) “Preventing Deflation: Lessons From Japan's Experience in the 1990s,” Federal Reserve Board International Finance Discussion Papers No. 729. Alesina, Alberto and Alex Cukierman. (1990) “The Politics of Ambiguity,” The Quarterly Journal of Economics, Vol. 105, No. 4, pp. 829–850. Alesina, Alberto and Allen Drazen. (1991) “Why Are Stabilizations Delayed?” International Economic Review, Vol. 81, No. 5, pp. 1170–88. Auernheimer, Leonardo. (1976) “The Effects of Inflationary Finance on Stability: A Theoretical Analysis,” Southern Economic Journal, Vol. 42, No. 3, pp. 502–507. Barro, Robert J. and David B. Gordon. (1983) “A Positive Theory of Monetary Policy in a Natural Rate Model,” The Journal of Political Economy, Vol. 91, No. 4. pp. 589–610. Barsky, Robert. (1987) “The Fisher Hypothesis and the Forecastability and Persistence of Inflation,” Journal of Monetary Economics, Vol. 19, pp. 3–24. Berger, Helge, Jakob de Haan, and Sylvester C. W. Eijffinger. (2000) “Central Bank Independence: An Update of Theory and Evidence,” Journal of Economic Surveys, Vol. 15, pp. 3–40. Bernanke, Ben S. (1995) “The Macroeconomics of the Great Depression: A Comparative Approach,” Journal of Money, Credit and Banking, Vol. 27, No. 1, pp. 1–28. Blinder, Alan S. (1998) Central Banking in Theory and Practice, The MIT Press, Cambridge. Böhm-Bawerk, Eugen von (1889) Capital and interest. Reprinted by Libertarian Press, South Holland, IL, 1970. Brennan, Geoffrey and James M. Buchanan. (1980) The power to tax: analytical foundations of a fiscal constitution, Cambridge MA, Cambridge University Press. Buiter, Willem H. (2002) “The Fiscal Theory of the Price Level: A Critique,” Economic Journal, Vol. 122, pp. 459–480. Buiter, Willem H. (2004) “A Small Corner of Intertemporal Public Finance–New Developments in Monetary Economics: Two Ghosts, Two Eccentricities, A Fallacy, A Mirage and A Mythos,” NBER Working Paper No. 10524. Cagan, Phillips. (1956) “The Monetary Dynamics of Hyperinflation,” in Studies in the Quantity Theory of money, ed. By Milton Friedman, Chicago, University of Chicago Press. Carlstrom, Charles T. and Timothy S. Fuerst. (2000) “The fiscal theory of the price level,” Federal Reserve Bank of Cleveland Economic Review, Vol. 36, Q1, pp. 22-32. Christiano, Lawrence and Terry J. Fitzgerald. (2000) “Understanding the Fiscal Theory of the Price Level,” NBER Working Paper No. 7668. Clarida, Richard, Jordi Gali and Mark Gertler. (2000) “Monetary Policy Rules And Macroeconomic Stability: Evidence And Some Theory,” The Quarterly Journal of Economics, Vol. 115, No. 1, pp. 147–180. Cochrane, John H. (1998a) “A Frictionless View of US Inflation,” NBER Macroeconomics Annual, Cambridge MA, MIT Press, pp. 323–384. Cochrane, John H. (1998b) “Long-term Debt and Optimal Policy in the Fiscal Theory of the Price Level,” NBER Working Paper No. 6771. Cochrane, John H. (2005) “Money as Stock: Price Level Determination with No Money Demand,” Journal of Monetary Economics. Vol. 52, No. 3, pp. 501–528. Cogley, Timothy and Thomas Sargent. (2002) “Evolving Post-World War II Inflation Dynamics,” NBER Macroeconomics Annual, Vol. 16. Cukierman, Alex, Sebastian Edwards, and Guido Tabellini. (1992) “Seigniorage and Political Instability,” American Economic Review, Vol. 82, No. 3, pp. 537–555. Dennis, Richard. (2001) “The policy preferences of the U.S. Federal Reserve,” Federal Reserve Bank of San Francisco Working Papers in Applied Economic Theory, No. 2001-08. Downs, Anthony. (1957) An economic theory of democracy, Harper, New York. Edwards, Jeremy and Michael Keen. (1996) “Tax Competition and Leviathan,” European Economic Review, Vol. 40, No. 1, pp. 113–134. Evans, M. and P. Watchel (1993) “Inflation regimes and the source of inflation uncertainty,” Journal of Money Credit and Banking, Vol. 25, pp. 475–511. Evans, Jean Lynne and George Keith Yarrow. (1981) “Some Implications of Alternative Expectations Hypotheses in the Monetary Analysis of Hyperinflations,” Oxford Economic Papers, New Series, Vol. 33, No. 1, pp. 61–80. Favero, Carlo A. and Riccardo Rovelli. (2001) “Macroeconomic Stability and the Preferences of the Fed: A Formal Analysis, 1961-98,” Journal of Money, Credit and Banking, Vol. 35, No. 4, pp. 545–556. Fischer, Stanley, Ratna Sahay and Carlos A. Végh. (2002) “Modern Hyper- and High Inflations,” Journal of Economic Literature, Vol. 40, No.3, pp. 837–880. Fisher, Irving. (1930) The theory of interest, Macmillan, New York. Gordon, David B. and Eric M. Leeper. (2002) “The Price Level, the Quantity Theory of Money, and the Fiscal Theory of the Price Level,” NBER Working Paper 9084. Harashima, Taiji. (2004a)“A More Realistic Endogenous Time Preference Model and the Slump in Japan,” EconWPA Working Papers, ewp-mac0402015. Harashima, Taiji. (2004b)“The Ultimate Source of Inflation: A Microfoundation of the Fiscal Theory of the Price Level,” EconWPA Working Papers, ewp-mac/ 0409018. Harashima, Taiji. (2005) “The Cause of the Great Inflation: Interactions between Government and Monetary Policymakers,” EconWPA Working Papers, ewp-mac/0510026. Harashima, Taiji. (2006) “The Sustainability of Budget Deficits in an Inflationary Economy,” MPRA (The Munich Personal RePEc Archive) Paper No. 1088. Harashima, Taiji. (2007a) “Why should central banks be independent?” MPRA (The Munich Personal RePEc Archive) Paper No. 1838. Harashima, Taiji. (2007b) “The Optimal Quantity of Money Consistent with Positive Nominal Interest Rates,” MPRA (The Munich Personal RePEc Archive) Paper No. 1839. Ito, Hiro. (2003) “Was Japan's Real Interest Rate Really Too High During the 1990s? The Role of the Zero Interest Rate Bound and Other Factors,” Santa Cruz Center for International Economics, Working Paper Series No. 1029. Kiguel, Miguel A. (1989) “Budget Deficits, Stability, and the Monetary Dynamics of Hyperinflation,” Journal of Money, Credit and Banking,Vol. 21, No. 2, pp. 148–157. Kocherlakota, Narayana and Christopher Phelan. (1999) “Explaining the fiscal theory of the price level,” Federal Reserve Bank of Minneapolis Quarterly Review, Vol. 23, No. 4, pp. 14–23. Kydland, Finn E. and Edward C. Prescott. (1977) “Rules Rather than Discretion: The Inconsistency of Optimal Plans,” Journal of Political Economy, Vol. 85, No. 3, pp. 473–491. Lawrance, Emily C. (1991) “Poverty and the rate of time preference: evidence from panel data,” Journal of Political Economy, Vol. 99, No. 1, pp. 54–77. Leeper, Eric. (1991) “Equilibria under Active and Passive Monetary and Fiscal Policies,” Journal of Monetary Economics, Vol. 27, pp. 129–147. Levin, Andrew Theo and Jeremy Piger. (2002) “Is inflation persistence intrinsic in industrial economies?” Federal Reserve Bank of St. Louis Working Paper No. 2002-023. McCallum, Bennett T. (2001) “Indeterminacy, Bubbles, and the Fiscal Theory of Price Level Determination,” Journal of Monetary Economics, Vol. 47, pp. 19–30. McCallum, Bennett T. (2003) “Is The Fiscal Theory of the Price Level Learnable?” Scottish Journal of Political Economy, Vol. 50, pp. 634-49. Meltzer, Allan H. (2005) “Origins of the Great Inflation,” Federal Reserve Bank of St. Louis Review, March, pp.145–176. Niepelt, Dirk. (2004) “The Fiscal Myth of the Price Level,” The Quarterly Journal of Economics, Vol. 119, pp. 276-99. Rogoff, Kenneth. (1985) “The Optimal Degree of Commitment to an Intermediate Monetary Target,” Quarterly Journal of Economics, Vol. 100, No. 4, pp. 1169–1189. Sargent, Thomas J. (1982) “The Ends of Four Big Hyperinflations,” in Inflation: Causes and Consequences, ed. by Robert E. Hall, Chicago, University of Chicago Press, pp. 41–97. Sargent, Thomas J. and Neil Wallace (1973) " Rational Expectations and the Dynamics of Hyperinflation", International Economic Review, Vol. 14, No. 2, pp. 328–350. Sargent, Thomas J. and Neil Wallace (1981) "Some Unpleasant Monetarist Arithmetic", Federal Reserve Bank. of Minneapolis Quarterly Review, Vol. 5 No. 3. Sidrauski, Miguel. (1967) “Rational Choice and Patterns of Growth in a Monetary Economy,” American Economic Review, Vol. 57, No. 2, pp. 387–393. Sims, Christopher A. (1994) “A Simple Model for Study of the Determination of the Price Level and the Interaction of Monetary and Fiscal Policy,” Economic Theory, Vol.4, pp. 381–399. Sims, Christopher A. (1998) “Econometric implications of the government budget constraint,” Journal of Econometrics, Vol. 83, pp. 9–19. Sims, Christopher A. (2001) “Fiscal Consequence for Mexico Adopting the Dollar,” Journal of Money, Credit and Banking, Vol. 23, pp. 597–625. Svensson, Lars E. O. (2003) “What Is Wrong with Taylor Rules? Using Judgment in Monetary Policy through Targeting Rules,” Journal of Economic Literature, Vol. 41, No. 2, pp. 426–477. Tabellini, Guido and Alberto Alesina. (1990) “Voting on the Budget Deficit,” American Economic Review, Vol. 80, No. 1, pp. 37–49. Taylor, John B. (2001) “An Interview with Milton Friedman,” Macroeconomic Dynamics, Vol. 5, No. 1, pp. 101–131. Taylor, John B. (2002) “A Half-Century of Changes in Monetary Policy,” Written Version of Remarks Delivered at the Conference in Honor of Milton Friedman. Uzawa, Hirofumi (1968) “Time preference, the consumption function, and optimal asset holdings,” J. N. Wolfe, ed., Value, Capital, and Growth: Papers in Honour of Sir John Hicks, Edinburgh, Scotland: University of Edinburgh Press Woodford, Michael. (1995) “Price Level Determinacy without Control of a Monetary Aggregate,” Carnegie-Rochester Conference Series on Public Policy, Vol. 43, pp. 1–46. Woodford, Michael. (2001) “Fiscal Requirements for Price Stability,” Journal of Money, Credit and Banking, Vol. 33, pp. 669–728. Yaari, Menahem E. (1965) “Uncertain Lifetime, Life Insurance, and the Theory of the Consumer,” The Review of Economic Studies, Vol. 32, No. 2, pp. 137–150.