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Obstacles to disinflation: what is the role of fiscal expectations?

Disinflation with imperfect credibility

Oya Celasun, R. Gaston Gelos and Alessandro Prati

Economic Policy, 2004, vol. 19, issue 40, 442-481

Abstract: Persistently high expected inflation often makes it difficult for policy-makers to recover from inflationary episodes without substantial output losses. Using survey data from eleven disinflation episodes, we can assess whether the more or less sluggish decline of inflation rates towards lower target levels is related to backward-looking pricing behavior or to imperfect credibility of the stabilization efforts. We find that expectations of future inflation play a much more important role than past inflation in shaping the inflation process. Second, we find that an improvement in various measures of fiscal balances significantly reduces inflation expectations. This evidence suggests that, when attempting to stabilize inflation, priority should be given to building fiscal credibility.— Oya Celasun, R. Gaston Gelos and Alessandro Prati

Date: 2004
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