Why Do Many Disinflations Fail? the Importance of Luck, Timing, and Political Institutions

December 1, 2002

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A. J Hamann, and Alessandro Prati. Why Do Many Disinflations Fail? the Importance of Luck, Timing, and Political Institutions, (USA: International Monetary Fund, 2002) accessed September 19, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

Many inflation stabilizations succeed only temporarily. Using a sample of 51 episodes of stabilization from inflation levels above 40 percent, we show that most of the failures are explained by bad luck, unfavorable initial conditions, and inadequate political institutions. The evolution of trading partners' demand and U.S. interest rates captures the effect of bad luck. Past inflation affects the outcome in two different ways: a long history of high inflation makes failure more likely, while a high level of inflation prior to stabilization increases the chances of success. Countries with short-lived political institutions, a weak executive authority, and proportional electoral rules also tend to fail. After controlling for all these factors, we find that exchange-rate-based stabilizations are more likely to succeed. These findings are robust across measures of failure (two dichotomous and one continuous), sample selection criteria, and estimation techniques, including Heckman's correction for the endogeneity of the anchor.

Subject: Econometric analysis, Estimation techniques, Exchange rate anchor, Fiscal consolidation, Fiscal policy, Foreign exchange, Inflation, Monetary policy, Prices, Real exchange rates

Keywords: Africa, Dependent variable, Disinflation, Estimation techniques, Exchange rate, Exchange rate anchor, Fiscal consolidation, Government polarization index, Government policy, Incumbent government, Inflation, Inflation crisis, Inflation expectation, Inflation performance, Inflation preference, Inflation reduction, Inflation stabilization, Output gap, Political economy, Political system, Real exchange rates, Sample state dependence, Stabilization, Stabilization inflation, WP

Publication Details

Pages:

64
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2002/228
Stock No:

WPIEA2282002
ISBN:

9781451875454
ISSN:

1018-5941

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