DP1488 | Debt, Cash Flow and Inflation Incentives: A Swedish Example

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The fiscal gains from, and hence the political incentives for, an increase in the inflation rate of ten percentage points may be substantial: Swedish data from 1994 suggests an annual real flow of 3?4% of GDP, or a capitalized value of nearly 100% of GDP. These gains would have arisen mainly from the nominalistic features of the tax and transfer systems rather than from the traditional sources: seignorage and real depreciation of public debt. The welfare costs of such an inflation increase would have been even larger, however, and would thus have reduced net welfare. Possible institutional reforms, aimed at making the political costs of inflation more equal to the social costs, are presented and discussed.