Reference no: EM133132218

In 1999-2000 the annual inflation rate in Ireland was estimated to be 4.5-5%, which was higher than the average inflation rate of 2.5-3% in the Eurozone. During the same period, Ireland's annual GDP growth rate was 7.4 percentage points above the Eurozone average. On 12 January 2001 the EU ECONFIN Council recommended a revision of fiscal policy to the Irish government, effectively putting the blame for Ireland's higher-than-average inflation on the government's overly expansionary fiscal stance. Some economists argued that the inflation differential between Ireland and the Eurozone was attributable to the Balassa-Samuelson effect and hence did not call for corrective policy measures. Suppose that in Ireland the rates of productivity growth in 1999-2000 were 8% and 2% per annum in the traded and nontraded goods sectors, respectively. In the rest of the Eurozone, the growth rate of productivity in the traded goods sector equalled that in the nontraded goods sector. If the expenditure share of nontraded goods in the reference consumption basket for constructing price indices ranges between 40% and 50% in the Eurozone, to what extent can the inflation differential between Ireland and the Eurozone be attributed to the Balassa-Samuelson effect?