Why Inflation Rates Differ / A Critical Examination of The Structural Hypothesis

Abstract

Most of the research into postwar inflation has concentrated on explaining variations over time in the inflation rate. Inter-country differences in average inflation rates have attracted less attention, although they are clearly important in the international adjustment process. There exist at least three major rival hypotheses for the explanation of inter-country differences in inflation:

• the monetary hypothesis: this is probably the oldest hypothesis. It relates international differences in inflation to the growth rates of money supply per unit of output. It was tested by Anna Schwartz for the period 1952-69 using a sample of 4o countries. The observations were located closely along a 45°-line: the simple correlation coefficient was as high as 0.97. The following conclusion, “that the key to understanding secular price change, now as in the past, is the behaviour of money stock per unit of output” is of course open to challenge, because of the assumed direction of causality. Many economists now take the view that the quantity of money is not something exogenously determined: rather it is an endogenously determined quantity that adjusts to expenditure decisions.²⁾

The authors are, respectively, Professors of Economics at the University of Brussels (Belgium) and the University of Reading (U.K.) The present paper is a somewhat abridged version of Chapter VIII of their forthcoming book (4).