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The costs of inflation – what have we learned?

David Gillmore

This article reviews what we know about the long-run impact of inflation on economic growth. Economic theory tells us that both high inflation and deflation adversely affect the economy. Inflation tends to benefit the wealthy at the expense of the poor and those on fixed incomes and it reduces economic growth over the long term. The experiences of New Zealand and other industrialised countries since World War II generally support this negative long-term relationship between inflation and growth. The experience of Japan illustrates the negative impact of deflation. There is general agreement that both high inflation and deflation impact negatively on the economy. Recent empirical studies have estimated the level of inflation at which its long-run impact on growth becomes materially negative. For industrialized countries, this level is about 3 percent, while for developing countries it is around 11 to 12 percent.