On Measuring the Welfare Cost of Inflation

Abstract This paper uses neoclassical monetary demand theory to measure the welfare cost of inflation. It uses the microeconomic‐ and aggregation‐theoretic approach to the demand for money, that integrates the demand for money with the demands for consumption and leisure, and provides a comparison between the consumer surplus approach based on Marshallian demand functions and the compensating variation approach based on Hicksian demand functions. The paper also reports new estimates of the welfare cost of inflation based on Hicksian money demand functions and the compensating variation approach.