A THEORY OF DEFLATION: CAN EXPECTATIONS BE INFLUENCED BY A CENTRAL BANK?
Abstract
This paper examines how to reverse deflation to inflation. Once deflation takes root, it is not easy to reverse because of the zero lower bound in nominal interest rates. My model indicates that there are two steady states where both inflation/deflation (i.e., changes in prices) and real activity (i.e., quantities) remain unchanged: that is, there are inflationary and deflationary steady states. The model indicates that, to switch a deflationary steady state to an inflationary steady state, a central bank needs to influence the time preference rates of the government and the representative household. It is not easy, however, to do so, and the best way of switching deflation to inflation may be to wait for a lucky event (i.e., an exogenous shock).
References
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[11] Blinder, A. S., Ehrmann, M., Fratzscher, M., De Haan, J., and Jansen, D. 2008. Central Bank Communication and Monetary Policy: A Survey of Theory and Evidence, Journal of Economic Literature, 46: 910-45.
[12] Blinder, A.S. 1998. Central Banking in Theory and Practice, The MIT Press, Cambridge.
[13] Brennan, G., and Buchanan, J. M. 1980. The power to tax: analytical foundations of a fiscal constitution, Cambridge University Press, Cambridge MA.
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[21] Das, M. 2003. Optimal Growth with Decreasing Marginal Impatience, Journal of Economic Dynamics & Control, 27(10): 1881–1898.
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[28] Mitsuhiro, F. 2005. The Effects of ‘Gesell’ (Currency) Taxes in Promoting Japan’s Economic Recovery, International Economics and Economic Policy, 2(2-3): 173-188, DOI: 10.1007/s10368-005-0032-2
[29] Jordi, G., Gertler, M., and López-Salido, D. 2005. Robustness of the estimates of the hybrid New Keynesian Phillips curve, Journal of Monetary Economics, 52(6): 1107-1118.
[30] Groves, P. M., and Thompson, R. F. 1970. Habituation: A Dual-process Theory, Psychological Review, 77: 419–450.
[31] Harashima, T. 2004a. A More Realistic Endogenous Time Preference Model and the Slump in Japan, EconWPA Working Papers, ewp-mac0402015.
[32] Harashima, T. 2004b. The Ultimate Source of Inflation: A Microfoundation of the Fiscal Theory of the Price Level, EconWPA Working Papers, ewp-mac/ 0409018.
[33] Harashima, T. 2008. A Microfounded Mechanism of Observed Substantial Inflation Persistence, MPRA (The Munich Personal RePEc Archive) Paper, No. 10668.
[34] Harashima, T. 2010. Sustainable Heterogeneity: Inequality, Growth, and Social Welfare in a Heterogeneous Population, MPRA (The Munich Personal RePEc Archive) Paper, No. 24233.
[35] Harashima, T. 2014a. The Representative Household Assumption Requires Sustainable Heterogeneity in Dynamic Models, Theoretical and Practical Research in Economic Fields, Vol. 5, No. 1.
[36] Harashima, T. 2014b. Time Preference Shocks, MPRA (The Munich Personal RePEc Archive) Paper, No. 60205.
[37] Harashima, T. 2015a. A Way Out of the Euro Crisis: Fiscal Transfers Are Indispensable for Sustainability in a Union with Heterogeneous Members, MPRA (The Munich Personal RePEc Archive) Paper, No. 63025.
[38] Harashima, T. 2015b. The Rate of Time Preference of Government, MPRA (The Munich Personal RePEc Archive) Paper, No. 65387.
[39] Kydland, F. E., and Prescott, E.C. 1977. Rules Rather than Discretion: The Inconsistency of Optimal Plans, Journal of Political Economy, 85(3): 473–491, Available at: http://dx.doi.org/10.1086/260580
[40] Lawrance, E. C. 1991. Poverty and the Rate of Time Preference: Evidence from Panel Data, Journal of Political Economy, 99(1): 54–77.
[41] Lord, F. M., and Novick, M.R. 1968. Statistical Theories of Mental Test Scores, Addison-Wesley, Reading, MA.
[42] Lucas, R. E., Jr., and Stokey, N. L. 1984. Optimal Growth with Many Consumers, Journal of Economic Theory, 32: 139-171.
[43] Obstfeld, M. 1990. Intertemporal Dependence, Impatience, and Dynamics, Journal of Monetary Economics, 26(1): 45-75.
[44] Parkin, M. 1988. A Method for Determining Whether Parameters in Aggregative Models Are Structural, Carnegie-Rochester Conference Series on Public Policy, 29(1): 215–252.
[45] Rankin, C.H. et al. 2009. Habituation Revisited: An Updated and Revised Description of the Behavioral Characteristics of Habituation, Neurobiology of Learning and Memory, 92(2): 135-138, DOI: 10.1016/j.nlm.2008.09.012
[46] Samuelson, P. 1937. A Note on Measurement of Utility, Review of Economic Studies, 4(2): 155–161, DOI: 10.2307/2967612
[47] Samwick, A. A. 1998. Discount Rate Heterogeneity and Social Security Reform, Journal of Development Economics, 57(1): 117–146.
[48] Sidrauski, M. 1967. Rational Choice and Patterns of Growth in a Monetary Economy, American Economic Review, 57(2): 387–393.
[49] Svensson, L. O. E. 2001. The Zero Bound in an Open Economy: A Foolproof Way of Escaping from a Liquidity Trap, Monetary and Economic Studies, 19(S-1): 277-312.
[50] Tabellini, G. and Alesina, A. 1990. Voting on the Budget Deficit, American Economic Review, 80(1): 37–49.
[51] Thompson, R. F., and Spencer, W. A. 1966. Habituation: A Model Phenomenon for the Study of Neuronal Substrates of Behavior, Psychological Review, 73: 16–43, Available at: http://dx.doi.org/10.1037/h0022681
[52] Ugai, H. 2007. Effects of the Quantitative Easing Policy: a Survey of Empirical analyses, Bank of Japan Monetary and Economic Studies, 25: 1-47.
[53] Hirofumi, U. 1968. Time Preference, the Consumption Function, and Optimal Asset Holdings, in Value, Capital, and Growth: Papers in Honour of Sir John Hicks (J. N. Wolfe ed.), University of Edinburgh Press, Edinburgh, Scotland, Available at: http://dx.doi.org/10.1017/CBO9780511664496.005
[54] van der Linden, Wim, J. and Hambleton, R. K. (Eds.) 1997. Handbook of Modern Item Response Theory, Springer-Verlag, New York.
[55] Ventura, L. 2003. Direct Measure of Time-preference, Economic and Social Review, 34(3): 293–310.
[56] Williams, J. 2009. Heeding Daedalus: Optimal Inflation and the Zero Lower Bound, Brookings Papers on Economic Activity, 2: 1–37.
[57] Woodford, M. 2012. Methods of Policy Accommodation at the Interest-rate Lower Bound, in Jackson Hole Symposium, August, Federal Reserve Bank of Kansas City.
[2] Alesina, A. and Drazen, A. 1991. Why Are Stabilizations Delayed? International Economic Review, 81(5): 1170–88.
[3] Antonelli, G. B. 1886. Sulla Teoria Matematica Della Economia Politica, Pisa, Tipografia del Falchetto.
[4] Böhm-Bawerk, E. von. 1889. Capital and Interest, Reprinted by Libertarian Press, South Holland, IL, 1970.
[5] Barro, R. J., and Gordon, D.B. 1983. A Positive Theory of Monetary Policy in a Natural Rate Model, The Journal of Political Economy, 91(4): 589–610, Available at: http://dx.doi.org/10.1086/261167
[6] Barsky, R.B., and Sims, E.R. 2012. Information, Animal Spirits, and the Meaning of Innovations in Consumer Confidence, American Economic Review, 102(4): 1343–1377, Available at: http://dx.doi.org/10.1257/aer.102.4.1343
[7] Becker, G. S., and Mulligan, C. 1997. The Endogenous Determination of Time Preference, Quarterly Journal of Economics, 112(3): 729–758.
[8] Becker, R. A. 1980. On the Long-run Steady State in a Simple Dynamic Model of Equilibrium with Heterogeneous Households, The Quarterly Journal of Economics, 95(2): 375–382, DOI: 10.2307/1885506
[9] Bernanke, B. S., and Reinhart, V.R. 2004. Conducting Monetary Policy at Very Low Short-Term Interest Rates, American Economic Review, 94: 85-90, DOI: 10.1257/0002828041302118
[10] Bernanke, B., Reinhart, V. R., and Sack, B. P. 2004. Monetary Policy Alternatives at the Zero Bound: An Empirical Assessment, Brookings Papers on Economic Activity, 2: 1-100, Available at: http://dx.doi.org/10.2139/ssrn.632381
[11] Blinder, A. S., Ehrmann, M., Fratzscher, M., De Haan, J., and Jansen, D. 2008. Central Bank Communication and Monetary Policy: A Survey of Theory and Evidence, Journal of Economic Literature, 46: 910-45.
[12] Blinder, A.S. 1998. Central Banking in Theory and Practice, The MIT Press, Cambridge.
[13] Brennan, G., and Buchanan, J. M. 1980. The power to tax: analytical foundations of a fiscal constitution, Cambridge University Press, Cambridge MA.
[14] Buiter, W.H. 2005. Overcoming the Zero Bound on Nominal Interest Rates: Gesell's Currency Carry Tax vs. Eisler's Parallel Virtual Currency, Hitotsubashi University Research Unit for Statistical Analysis in Social Sciences, Discussion Paper Series, No. 96.
[15] Cattell, R. B. 1963. Theory of Fluid and Crystallized Intelligence: A Critical Experiment,” Journal of Educational Psychology, 54: 1-22, Available at: http://dx.doi.org/10.1037/h0046743
[16] Cattell, R. B. 1971. Abilities: Their structure, growth, and action, Houghton Mifflin, Boston.
[17] Christiano, L., and Fitzgerald, T.J. 2000. Understanding the Fiscal Theory of the Price Level, NBER Working Paper No. 7668.
[18] Coenen, G., and Wieland, V. 2003. The Zero-interest-rate Bound and the Role of the Exchange Rate for Monetary Policy in Japan, Journal of Monetary Economics, 50: 1071-1101.
[19] Coenen, G., and Wieland, V. 2004. Exchange Rate Policy and the Zero Bound on Nominal Interest Rates, American Economic Review: Papers and Proceeding, 94: 80-84.
[20] Cukierman, A., Webb, S. B., and Neyapti, B. 1992. Measuring the Independence of Central Banks and Its Effect on Policy Outcomes, World Bank Economic Review, 6(3): 353-398.
[21] Das, M. 2003. Optimal Growth with Decreasing Marginal Impatience, Journal of Economic Dynamics & Control, 27(10): 1881–1898.
[22] Downs, A. 1957. An Economic Theory of Democracy, Harper, New York.
[23] Edwards, J. and Keen, M. 1996. Tax Competition and Leviathan, European Economic Review, 40(1): 113–134.
[24] Eggertsson, G. B., and Woodford, M. 2003. The Zero Bound on Interest Rates and Optimal Monetary Policy, Brookings Papers on Economic Activity, 1: 193-233.
[25] Epstein, L. G. and Hynes, J. A. 1983. The Rate of Time Preference and Dynamic Economic Analysis, Journal of Political Economy, 91(4): 611-635, Available at: http://dx.doi.org/10.1086/261168
[26] Fisher, I. 1930. The Theory of Interest, Macmillan, New York
[27] Shane, F., Loewenstein, G., and O’Donoghue, T. 2002. Time Discounting and Time Preference: A Critical Review, Journal of Economic Literature, 40(2): 351-401, DOI: 10.1257/002205102320161311
[28] Mitsuhiro, F. 2005. The Effects of ‘Gesell’ (Currency) Taxes in Promoting Japan’s Economic Recovery, International Economics and Economic Policy, 2(2-3): 173-188, DOI: 10.1007/s10368-005-0032-2
[29] Jordi, G., Gertler, M., and López-Salido, D. 2005. Robustness of the estimates of the hybrid New Keynesian Phillips curve, Journal of Monetary Economics, 52(6): 1107-1118.
[30] Groves, P. M., and Thompson, R. F. 1970. Habituation: A Dual-process Theory, Psychological Review, 77: 419–450.
[31] Harashima, T. 2004a. A More Realistic Endogenous Time Preference Model and the Slump in Japan, EconWPA Working Papers, ewp-mac0402015.
[32] Harashima, T. 2004b. The Ultimate Source of Inflation: A Microfoundation of the Fiscal Theory of the Price Level, EconWPA Working Papers, ewp-mac/ 0409018.
[33] Harashima, T. 2008. A Microfounded Mechanism of Observed Substantial Inflation Persistence, MPRA (The Munich Personal RePEc Archive) Paper, No. 10668.
[34] Harashima, T. 2010. Sustainable Heterogeneity: Inequality, Growth, and Social Welfare in a Heterogeneous Population, MPRA (The Munich Personal RePEc Archive) Paper, No. 24233.
[35] Harashima, T. 2014a. The Representative Household Assumption Requires Sustainable Heterogeneity in Dynamic Models, Theoretical and Practical Research in Economic Fields, Vol. 5, No. 1.
[36] Harashima, T. 2014b. Time Preference Shocks, MPRA (The Munich Personal RePEc Archive) Paper, No. 60205.
[37] Harashima, T. 2015a. A Way Out of the Euro Crisis: Fiscal Transfers Are Indispensable for Sustainability in a Union with Heterogeneous Members, MPRA (The Munich Personal RePEc Archive) Paper, No. 63025.
[38] Harashima, T. 2015b. The Rate of Time Preference of Government, MPRA (The Munich Personal RePEc Archive) Paper, No. 65387.
[39] Kydland, F. E., and Prescott, E.C. 1977. Rules Rather than Discretion: The Inconsistency of Optimal Plans, Journal of Political Economy, 85(3): 473–491, Available at: http://dx.doi.org/10.1086/260580
[40] Lawrance, E. C. 1991. Poverty and the Rate of Time Preference: Evidence from Panel Data, Journal of Political Economy, 99(1): 54–77.
[41] Lord, F. M., and Novick, M.R. 1968. Statistical Theories of Mental Test Scores, Addison-Wesley, Reading, MA.
[42] Lucas, R. E., Jr., and Stokey, N. L. 1984. Optimal Growth with Many Consumers, Journal of Economic Theory, 32: 139-171.
[43] Obstfeld, M. 1990. Intertemporal Dependence, Impatience, and Dynamics, Journal of Monetary Economics, 26(1): 45-75.
[44] Parkin, M. 1988. A Method for Determining Whether Parameters in Aggregative Models Are Structural, Carnegie-Rochester Conference Series on Public Policy, 29(1): 215–252.
[45] Rankin, C.H. et al. 2009. Habituation Revisited: An Updated and Revised Description of the Behavioral Characteristics of Habituation, Neurobiology of Learning and Memory, 92(2): 135-138, DOI: 10.1016/j.nlm.2008.09.012
[46] Samuelson, P. 1937. A Note on Measurement of Utility, Review of Economic Studies, 4(2): 155–161, DOI: 10.2307/2967612
[47] Samwick, A. A. 1998. Discount Rate Heterogeneity and Social Security Reform, Journal of Development Economics, 57(1): 117–146.
[48] Sidrauski, M. 1967. Rational Choice and Patterns of Growth in a Monetary Economy, American Economic Review, 57(2): 387–393.
[49] Svensson, L. O. E. 2001. The Zero Bound in an Open Economy: A Foolproof Way of Escaping from a Liquidity Trap, Monetary and Economic Studies, 19(S-1): 277-312.
[50] Tabellini, G. and Alesina, A. 1990. Voting on the Budget Deficit, American Economic Review, 80(1): 37–49.
[51] Thompson, R. F., and Spencer, W. A. 1966. Habituation: A Model Phenomenon for the Study of Neuronal Substrates of Behavior, Psychological Review, 73: 16–43, Available at: http://dx.doi.org/10.1037/h0022681
[52] Ugai, H. 2007. Effects of the Quantitative Easing Policy: a Survey of Empirical analyses, Bank of Japan Monetary and Economic Studies, 25: 1-47.
[53] Hirofumi, U. 1968. Time Preference, the Consumption Function, and Optimal Asset Holdings, in Value, Capital, and Growth: Papers in Honour of Sir John Hicks (J. N. Wolfe ed.), University of Edinburgh Press, Edinburgh, Scotland, Available at: http://dx.doi.org/10.1017/CBO9780511664496.005
[54] van der Linden, Wim, J. and Hambleton, R. K. (Eds.) 1997. Handbook of Modern Item Response Theory, Springer-Verlag, New York.
[55] Ventura, L. 2003. Direct Measure of Time-preference, Economic and Social Review, 34(3): 293–310.
[56] Williams, J. 2009. Heeding Daedalus: Optimal Inflation and the Zero Lower Bound, Brookings Papers on Economic Activity, 2: 1–37.
[57] Woodford, M. 2012. Methods of Policy Accommodation at the Interest-rate Lower Bound, in Jackson Hole Symposium, August, Federal Reserve Bank of Kansas City.
Published
2016-12-31
How to Cite
HARASHIMA, Taiji.
A THEORY OF DEFLATION: CAN EXPECTATIONS BE INFLUENCED BY A CENTRAL BANK?.
Theoretical and Practical Research in Economic Fields, [S.l.], v. 7, n. 2, p. 98-145, dec. 2016.
ISSN 2068-7710.
Available at: <https://journals.aserspublishing.eu/tpref/article/view/1262>. Date accessed: 22 dec. 2024.
doi: https://doi.org/10.14505/tpref.v7.2(14).02.
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