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A theory of low inflation in a non Ricardian economy with credit constraints

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  • Xavier Ragot

    (PJSE - Paris-Jourdan Sciences Economiques - ENS-PSL - École normale supérieure - Paris - PSL - Université Paris Sciences et Lettres - EHESS - École des hautes études en sciences sociales - ENPC - École des Ponts ParisTech - CNRS - Centre National de la Recherche Scientifique)

Abstract

This paper explores the relationship between the severity of credit constraints and long run inflation in a simple non Ricardian setting. It is shown that a low positive inflation can loosen credit constraints and that this effect yields a theory of the optimal long run inflation target with no assumption concerning nominal rigidities or expectation errors. Credit constraints introduce an un-priced negative effect of the real interest rate on investment. Because of this effect, the standard characterization of economic efficiency with the Golden Rule fails to apply. When fiscal policy is optimally designed, the first best allocation can be achieved thanks to a positive inflation rate and a proportional tax on consumption.

Suggested Citation

  • Xavier Ragot, 2005. "A theory of low inflation in a non Ricardian economy with credit constraints," PSE Working Papers halshs-00590788, HAL.
    • Handle: RePEc:hal:psewpa:halshs-00590788
    Note: View the original document on HAL open archive server: https://shs.hal.science/halshs-00590788
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