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The welfare cost of inflation in general equilibrium

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  • Michael Dotsey
  • Peter N. Ireland

Abstract

This paper presents a general equilibrium monetary model in which inflation distorts a variety of marginal decisions. Although individually none of the distortions is very large, they combine to yield substantial welfare cost estimates. A sustained 4% inflation like that experienced in the U.S. since 1983 costs the economy the equivalent of 0.41% of output per year when currency is identified as the relevant definition of money and over 1% of output per year when M1 is defined as money. The results illustrate how the traditional, partial equilibrium approach can seriously underestimate the true cost of inflation.

Suggested Citation

  • Michael Dotsey & Peter N. Ireland, 1994. "The welfare cost of inflation in general equilibrium," Working Paper 94-04, Federal Reserve Bank of Richmond.
    • Handle: RePEc:fip:fedrwp:94-04
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    Keywords

    Inflation (Finance);

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