Some Costs and Benefits of Price Stability in the U.K.

Bank of England Working Paper No. 78

73 Pages Posted: 23 Apr 1998

See all articles by Hasan Bakhshi

Hasan Bakhshi

Bank of England - Monetary Analysis

Andrew Haldane

Bank of England

Neal Hatch

Bank of England

Date Written: July 1998

Abstract

In a previous attempt to articulate the costs of inflation (Leigh-Pemberton (1992)), the Bank of England outlined the following costs of a fully-anticipated inflation: - the cost of economising on real money balances -- so-called shoe-leather' effects; - the costs of operating a less-than-perfectly indexed tax system; - the costs of front-end loading' of nominal debt contracts; - the cost of constantly revising price lists -- so called menu costs' Feldstein (1996) quantified the first two of these costs when moving from 2% inflation to price stability in the U.S. Feldstein concluded that the permanent welfare gains through these two channels -- suitably discounted -- alone exceeded the transient costs of doing so. This paper aims to replicate Feldstein's analysis for the U.K. Welfare effects are quantified using deadweight loss analysis familiar from public finance economics. Because inflation exacerbates tax distortions that exist even without inflation, the welfare costs are trapezoids rather than the usual triangles, or, alternatively, first-order rather than second-order losses. We find that the welfare gains from moving to price stability through the two channels identified above are lower in

JEL Classification: E31

Suggested Citation

Bakhshi, Hasan and Haldane, Andrew and Hatch, Neal, Some Costs and Benefits of Price Stability in the U.K. (July 1998). Bank of England Working Paper No. 78. Available at SSRN: https://ssrn.com/abstract=79049 or http://dx.doi.org/10.2139/ssrn.79049

Hasan Bakhshi (Contact Author)

Bank of England - Monetary Analysis ( email )

Threadneedle Street
London EC2R 8AH
United Kingdom
020 7601 5996 (Phone)

Andrew Haldane

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

Neal Hatch

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

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