Inflation uncertainty and growth in a cash-in-advance economy

This paper analyzes the effects of inflation variability on economic growth in a model where money is introduced via a cash-in-advance constraint. In this setting, we find that inflation adversely affects long-run growth, even when the cash-in-advance constraint applies only to consumption. At the same time, we find that inflation and growth are positively related in the short run. Furthermore, variability increases average growth through a precautionary savings motive. Since inflation and inflation variability tend to be highly correlated, the presence of uncertainty attenuates the negative long-run relationship between inflation and real growth. It also provides a partial rationale for the apparent lack of robustness in cross-country regressions of growth and inflation, (C) 2000 Elsevier Science B.V. All rights reserved. JEL classification: E13; O42.