## Optimal Taxation of Inflation

_IMF Working Papers, December 8, 2023_

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**Canonical URL:** [Optimal Taxation of Inflation](https://www.imf.org/en/publications/wp/issues/2023/12/08/optimal-taxation-of-inflation-542215)

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## Bibliographic details
- Authors: Damien Capelle, Yang Liu
- Published: December 8, 2023
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9798400261169.001

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### Main findings
- When inflation originates from distributional conflicts, shifts in inflation expectations, or energy price shocks, monetary policy (MP) is a costly stabilization instrument.
- A tax on inflation policy (TIP), which would require firms to pay a tax proportional to the increase in their prices, would effectively correct externalities in firms’ pricing decisions.
- TIP would tackle excessive inflation and reduce output volatility, without exacerbating price distortions.
- TIP and MP are complements rather than substitutes: TIP addresses markups and inflation expectation shocks, while MP addresses demand shocks.

### Analysis and mechanisms
- TIP targets the externality arising from firms’ pricing decisions by imposing a tax proportional to price increases.
- TIP mitigates excessive inflation stemming from:
  - distributional conflicts,
  - shifts in inflation expectations,
  - energy price shocks.
- MP remains the primary instrument for stabilizing demand shocks; reliance on MP alone is costly when inflation has the above origins.

### Policy implications
- Implementing TIP can reduce the reliance on costly MP interventions when inflation is driven by markups, expectation shocks, or energy price shocks.
- Policymakers should consider TIP as a complementary tool to monetary policy:
  - Use TIP to address markup-driven inflation and inflation expectation shocks.
  - Use MP to respond to demand-driven fluctuations.

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_Source: https://www.imf.org/en/publications/wp/issues/2023/12/08/optimal-taxation-of-inflation-542215_