The Optimal Inflation Target in an Economy with Limited Enforcement

James Bullard, Costas Azariadis and Gaetano Antinolfi ()

No 915, 2008 Meeting Papers from Society for Economic Dynamics

Abstract: We formulate the 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. Households are divided into cash agents, who store value in currency alone, and credit agents who have access to both currency and loans. The planner's problem is equivalent to choosing inflation and nominal rates consistent with a resource constraint, and with an incentive constraint that ensures credit agents prefer the superior consumption-smoothing power of loans to that of currency. We show that the optimum implied rate of inflation is positive, and the optimum implied nominal interest rate is higher than the inflation rate, if the social welfare function weighs credit agents no more than their population fraction.

Date: 2008
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Related works:
Journal Article: THE OPTIMAL INFLATION TARGET IN AN ECONOMY WITH LIMITED ENFORCEMENT (2016)
Working Paper: The optimal inflation target in an economy with limited enforcement (2012)
Working Paper: The optimal inflation target in an economy with limited enforcement (2008)
Working Paper: The optimal inflation target in an economy with limited enforcement (2008)
Working Paper: The optimal inflation target in an economy with limited enforcement (2007)
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