Essays on Hyperinflation, Seigniorage and Fiscal Voracity

Jose Luis Saboin

Advisor: Carlos D Ramirez, PhD, Department of Economics

Committee Members: Lawrence H. White, Cesar A. Martinelli

Online Location, Zoom
April 10, 2024, 03:00 PM to 05:00 PM

Abstract:

This dissertation examines the macroeconomics of modern hyperinflation. The first chapter brings a broad set of stylized facts that depict a representative modern hyperinflation cycle. The second chapter, by estimating collected-seigniorage levels and a money demand function, assesses whether seigniorage-maximizing behavior by a monetary authority unleashed the last hyperinflation of the 21st century (occurring in Venezuela). Finally, the last chapter provides evidence on the evolution of fiscal voracity and its intergenerational implications in the country and argues its fundamental role in unleashing the phenomenon.

The first chapter depicts the empirical regularities of modern hyperinflations. Using a database of up to 62 variables for 183 countries over 57 years, a hyperinflation cycle is characterized to propose a broader set of stylized facts. Under the proposed identification methodology, 19 hyperinflation cycle episodes were identified. Beyond the usual facts about hyperinflation (e.g. persistent fiscal deficits and extraordinary money growth), the findings in this chapter contribute to the literature of hyperinflation in that these cycles occur in contexts where there are (i) high natural resource rents, (ii) depressed economic freedoms, (iii) deteriorated socioeconomic conditions and rule of law, and (iv) high levels of domestic unrest and government instability. Hyperinflation cycles end when there are improvements on three essential fronts: (i) the fiscal and monetary mix: fiscal accounts are closer to equilibrium and base money growth decreases substantially; (ii) the interaction with the external sector: barriers to international trade diminish and the exp/imp capacity of the economy increases significantly, the burden of foreign debt on exports regularizes, the resounding level of devaluation of the currency is stopped hand in hand with less variability of the foreign exchange rate; and (iii) structural factors: economic freedoms improve and there is greater government stability. Finally, the role of international financial assistance in stabilization was studied, noting that (i) a clear majority of hyperinflation countries used it, further improving their (ii) economic freedoms, and allowing themselves (iii) greater fiscal flexibility and (iv) more exchange rate stability.

The second chapter estimates seigniorage levels in the Venezuelan economy from 1996 to 2018 and uses a money demand empirical framework to determine whether a seigniorage-maximizing inflation rate was passed, providing a rational on the development of hyperinflation in the country. The results of the chapter suggest that, over the period of study, the Venezuelan government acted as a seigniorage maximizer. The model predicts that the seigniorage-maximizing rate of inflation of the Venezuelan economy occurred around the second and third quarters of 2016 at a monthly inflation rate between 15 and 36 percent, a figure well below both, the actual average inflation rate registered for this period of 62 percent and Cagan's (1956) 50 percent hyperinflation threshold. While in the period just before the advent to hyperinflation, that is, when the equilibrium relationship between money supply and the demand for real balances parameters was still stable, the seigniorage-maximizing rate was around 11 percent, a figure well above the actual average inflation rate of 6 percent for this period. One of the implications of this result is that when facing the choice of maximizing short-run seigniorage at the expense of long-run seigniorage, the government opted for the former and faced the perils of hyperinflation. The role of exchange rate expectations and currency substitution was studied, and the results disregard its relevance in determining the demand for real money balances in the hyperinflation phase. The study also shows how the economic regime of the last 25 years, by increasing the role of the public sector in the economy through a series of interventions, has managed to expropriate an important part of the population's wealth, whereas the previous regime, through less intervention, respect to basic economic freedoms, and standard macroeconomic management, never put itself on the "bad" side of the inflation tax Laffer curve.

This final chapter provides evidence on the evolution of fiscal procyclicality in Venezuela and its intergenerational consequences for the period 1962-2017 by (i) estimating a model of time-varying parameters (TV-SVAR) that allows to depict the behavior of fiscal policy in Venezuela trough time and (ii) use the model's output and expenditure elasticities in an intergenerational accounting framework to evaluate the generational consequences of such behavior and (iii) compare them with a counterfactual scenario in which fiscal policy would have been more moderate. Results from the TV-SVAR model suggests that procyclicality deteriorated, particularly since 2007, a year coincident with the increase of the intervention of the State in the economy. These results also show that the direct multiplier effect of oil revenues in the non-oil economy has decreased over the period. A similar pattern is also shown for the indirect multiplier of oil (through the fiscal multiplier channel). Conversely, results from the same model applied to the Colombian case show that procyclicality improved, particularly since the adoption of a fiscal rule in 2000. Results from the generational accounting framework show that a more prudent fiscal policy would have left future generations with a lower fiscal burden, but that this was not enough to fully comply with the intertemporal budget constraint: lower financing costs as well as higher growth were also needed.