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THE OPTIMAL INFLATION TARGET IN AN ECONOMY WITH LIMITED ENFORCEMENT

Published online by Cambridge University Press:  29 May 2014

Gaetano Antinolfi ,
Costas Azariadis  and
James Bullard
Gaetano Antinolfi*
Affiliation:
Washington University in St. Louis
Costas Azariadis
Affiliation:
Washington University and Federal Reserve Bank of St. Louis
James Bullard
Affiliation:
Federal Reserve Bank of St. Louis
*
Address correspondence to: Gaetano Antinolfi, Department of Economics, CB 1208, Washington University in St. Louis, St. Louis, MO 63130-4899, USA; e-mail: [email protected].
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Abstract

We formulate a central bank's problem of selecting an optimal long-run inflation rate as the choice of a distorting tax by a planner who wishes to maximize discounted stationary utility for a heterogeneous population of infinitely lived households in an economy with constant aggregate income and public information. Households are segmented into agents who store value in currency alone and agents who have access to both currency and loans. We show that the optimum inflation rate is positive, because inflation reduces the value of the outside option for credit agents and raises their debt limits.

Keywords

DeflationDebt ConstraintsLimited ParticipationMonetary PolicyFriedman Rule
Type
Articles
Information
Macroeconomic Dynamics , Volume 20 , Issue 2: Complexity in Economic Systems , March 2016 , pp. 582 - 600
Copyright
Copyright © Cambridge University Press 2014 

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