Discussion paper

DP3038 No Pain, No Gain? The Simple Analytics of Efficient Disinflation in Open Economies

The Paper studies the design of efficient disinflation programmes in open economies using the sacrifice ratio; that is, the cumulative additional un-employment or cumulative lost output required to achieve a 1% sustained reduction in the rate of inflation, as the metric of efficiency. The ?new Keynesian? Phillips curve first proposed by Calvo has a zero sacrifice ratio: costless disinflation is possible, because the inflation process is purely forward-looking. There is inertia or rigidity in the price level but not in the rate of inflation. More interesting inflation kernels for which current inflation is partly forward-looking and partly backward-looking have a positive sacrifice ratio. Real exchange rate appreciation early in the disinflation process may raise the sacrifice ratio relative to a policy that keeps the real exchange rate constant. The sacrifice ratio is lower under gradualism than under ?cold turkey?. Effficient disinflation policies may, however, be time-inconsistent and therefore not credible.

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Citation

Buiter, W and C Grafe (eds) (2001), “DP3038 No Pain, No Gain? The Simple Analytics of Efficient Disinflation in Open Economies”, CEPR Press Discussion Paper No. 3038. https://cepr.org/publications/dp3038