Debt Crisis and Inflation (original) (raw)

1997, Brazilian Review of Econometrics

This paper develops and tests a model that predicts a negative link between the degree of openness of an economy and its equilibrium inflation rate. The effect arises in an economy going through a debt crisis, and in which inflation tax constitutes an important source of the government's revenue. The predictions of the analysis are compared to those in Romer (1993), which uses a Barro-Gordon type model to argue that openness puts a check on a government's incentive to engage in unanticipated inflation, because of induced exchange rate depreciation. Romer's tests are reevaluated, and it is shown that the degree of openness is only a significant determinant of inflation among highly indebted countries, during the debt crisis period. The empirical results indicate that the model of openness and inflation' presented here explains the data better than Romer. Resumo • I thank Kenneth Rogoff, Peter Kenen, Laurence Ball, Afonso Bevilaqua, partic ipants in the Department of Economics seminar at PUC-Rio and in the Modeling Inflation session at the Econometric Society 7th World Congress for very useful com ments and suggestions, All remaining errors are my own. I am grateful to CNPq, Brazil, for financial assistance .

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