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Only Paul Could Go To Changchun

Inflation tax in the lab: a theoretical and experimental study of competitive search equilibrium with inflation

9/10/2016

 
Here.

How does the inflation tax impact on buyers’ and sellers’ behaviour? How strong is its effect on aggregate economic activity? To answer, we develop a model of directed search and monetary exchange with inflation. In the model, sellers post prices, which buyers observe before deciding on cash holdings that are costly due to inflation. We derive simple theoretical propositions regarding the effects of inflation in this environment. We then test the model’s predictions with a laboratory experiment that closely implements the theoretical framework. Our main finding confirms that not only is the inflation tax harmful to the economy – with cash holdings, GDP and welfare all falling as inflation rises – but also that its effect is relatively larger at low rates of inflation than at higher rates. 

From:

Nejat Anbarci
​Deakin University

Richard Dutu
Universit´e de Paris Ouest

Nick Feltovich
​Monash University 



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