Question

2. Using the "six costs of inflation" detailed by Mankiw, explain the likely effects of deflation. In responding, comment briefly on each of the six costs identified by Mankiw.

Answer 1

1. SHOELEATHER COSTS
2. MENU COSTS
3. INCREASED VARIABILLITY OF RELATIVE PRICES
4. UNINTENDED TAX LIABILITY CHANGES
5. CONFUSION ADN INCOVENIENCE
6. ARBITARY REDISTRIBUTIONS OF WEALTH

• Shoeleather costs :
  • The resources wasted when inflation encourages people to reduce their money holdings.
  • The actual cost reducing your money holding is the time and convenience. You must sacrifice to keep less money in hand.

• Menu costs :
  • ?The cost of changing price during inflationary times, it is neccessary to update price lists and other posted price

• Increased variabillity of relative prices :
  • When inflaction distorts relative prices consumer decissions are distorted, and markets are less able to allocate resources to their bes use.

• Unintended tax liability changes :
  • 

• Confusion and incovenience :
  • When the fed increases the money supply and reates inflations, it erodes the real value of unit account.
  • Inflation causes dollars at different times to have different real values.
  • Therefore with rising prices it is more difficult to compare real rexenues,costs and profits overtime.

• Arbitary redistributions of wealth :
  • Unexpected inflaction redistributes wealth among the population in a way that has nothing to do with either merrit or need.
  • If a country pursure a high inflation monetary policy...
    • The cost og high expexted inflation.
    • The arbitary redistributions of wealth aassociated with unexpected inflation.

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