The Persistance of Inflation and the Cost of Disinflation

by Jeffrey C. Fuhrer
January/February 1995

How costly would it be in terms of lost output and jobs to lower the inflation rate to zero? One can answer this counterfactual question only in the context of a model that allows us to estimate the effects of pursuing counterfactual monetary policies. The answer to the question can vary widely depending upon the characteristics of the model used to address it.

This article argues that one cannot answer the above question accurately without using a model that properly captures an important feature of the real world: the persistence of inflation. This persistence and the cost of disinflating may arise for several reasons, including the inertia that wage and price contracts impart to the inflation rate, the inertia that slowly adjusting expectations may impart to inflation, or the inertia that imperfect credibility may impart to inflation. The author examines the question using the results of both stylized and fully articulated models. Social Security Reform: Links to Saving, Investment, and Growth. This article reviews the presentations at the conference and the themes that developed from the discussions.

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