28.3 The Cost of Inflation

MyEconLab Concept Video

Inflation decreases potential GDP, slows economic growth, and consumes leisure time. These outcomes occur for four reasons that we classify as the four costs of inflation:

  • Tax costs

  • Shoe-leather costs

  • Confusion costs

  • Uncertainty costs

Tax Costs

We’ve seen that inflation occurs when the quantity of money grows more rapidly than real GDP. But why would we ever want to make this happen? Why don’t we keep the quantity of money growing at the same pace as real GDP grows? One part of the answer is that the government gets revenue from inflation.

Inflation Is a Tax

A government can pay its expenses with newly created money. But the things a government buys with this money aren’t free. They are ...

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