Inflation And Debt

Question 1

Spiralling problem

Answer 1

Expectations = spend straight away –> demand pull inflation

Wages indexed more = inflation increases

Question 2

Finance budget deficit by

Answer 2

1) borrowing (issue bonds) / creating money

2) debt monetisation

Question 3

Debt monetisation

Answer 3

Gov issues bonds and asks central banks to buy them

Central bank oays gov with money creates which finances it

Question 4

Seigniorage

Answer 4

Change M/ P

= amount real revenue gov can generate from money creation

The product of the rate of nominal money growth and real money balances

Question 5

Real money balances

Answer 5

Higher nominal i = increase opportunity cost holding money –> people decreasing real money balances

Question 6

Hyperinflation –> amount money balances held depends on expected inflation

Answer 6

i = r + (pie)^e

So M/P = YL(r+(pie)^e)

Expected inflation is very high = get rid of money holdings asap

Question 7

Dynamics of increasing inflation

Answer 7

1) SR: nominal money growth –> little change real money balances
2) over time, same rate of nominal money growth yields less and less seignorage
3) therefore gov can’t finance deficit at constant rate nominal money growth

Question 8

Tanzi Olivera effect

Answer 8

Looks impact inflation on real value of taxes collected

Question 9

Stabilisation program elements

Answer 9

1) fiscal reform and credible budget deficit decreases
2) taking credible steps that will demonstrate the commitment of central bank to no longer monetise the debt
3) some economists argue income policies (wage and or price guidelines/controls) to be used in addition on fiscal and monetary

Question 10

3 reasons why inflation may not decrease as fast as nominal money growth

Answer 10

1) wages = set nominal terms for time
2) wage contracts = staggered
3) change monetary policy may not be fully and instantaneously credible

Question 11

Without money printing equation

Answer 11

Bt/Yt - Bt-1/Yt-1 = (r-g) Bt-1/Yt-1 + Gt-Tt/Yt

Question 12

With money printing, budget constraint equation

Answer 12

(Bt/Yt - Bt-1/Yt-1) + (Mt/Yt - Mt-1/Yt-1) = (r-g) Bt-1/Yt-1 + Gt-Tt/Yt

Question 13

High debt needs reestablish balanced budget via

Answer 13

1) primary surplus
2) decrease nominal interest rate
3) increase growth
4) debt monetisation
5) default (total/partial)

Question 14

Hyperinflation

Answer 14

Very high inflation e.g. Germany 1922-1923

Inflation ultimately from nominal money growth

High nominal money growth as budget deficit is high
Gov only finance expenditures through money creation

Question 15

Hyperinflation in Bolivia

Answer 15

1980s

• 1970s strong output growth as high world price for X (tin silver etc)
• p Tin fell –> foreign lending fell –> money creating instead
• budget deficit 1984 31.6% GDP. Increase seignorage = increase nominal money growth = increase inflation

Inflation in Feb 1985 = 182%

Question 16

Hyperinflation in Bolivia

Answer 16

1980s

• 1970s strong output growth as high world price for X (tin silver etc)
• p Tin fell –> foreign lending fell –> money creating instead
• budget deficit 1984 31.6% GDP. Increase seignorage = increase nominal money growth = increase inflation

Inflation in Feb 1985 = 182%