Optimal Taxation of Inflation

Damien Capelle and Yang Liu

No 2023/254, IMF Working Papers from International Monetary Fund

Abstract: When inflation originates from distributional conflicts, shifts in inflation expectations, or energy price shocks, monetary policy (MP) is a costly stabilization instrument. We show that a tax on inflation policy (TIP), which would require firms to pay a tax proportional to the increase in their prices, would effectively correct externalities in firms’ pricing decisions, tackle excessive inflation and reduce output volatility, without exacerbating price distortions. While proposals from the 1970s saw TIP as a substitute to MP, we find that it is a complement, with TIP addressing markups and inflation expectation shocks, and MP addressing demand shocks.

Keywords: Inflation; Markup Shock; Monetary Policy; Tax on Inflation; Taxbased Incomes Policies; Externality; inflation expectation shock; excessive inflation; energy price shock; price distortion; Phillips curve; Output gap; Wage adjustments; Wages; Sticky prices; Western Europe (search for similar items in EconPapers)
Pages: 109
Date: 2023-12-08
New Economics Papers: this item is included in nep-cba, nep-mon, nep-pbe and nep-pub
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