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The evolution of cash transactions: Some implications for monetary policy

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  • Schreft, Stacey L.
  • Smith, Bruce D.

Abstract

This paper considers the implications for monetary policy of a decreasing demand for outside money. It finds that even perpetual declines in the demand for base money pose no threat to the traditional methods employed for conducting monetary policy. The effects of such reductions in the demand for central bank liabilities, however, do depend on how monetary policy is conducted. Four monetary policy regimes are analyzed. With a policy of nominal-interest-rate targeting, a secular decline in the volume of cash transactions unambiguously leads to accelerating inflation. A policy of maintaining a fixed composition of government liabilities leads to accelerating (decelerating) inflation if agents have sufficiently high (low) levels of risk aversion. Inflation targeting produces falling nominal and real interest rates, while a policy of fixing the rate of money growth can easily lead to indeterminacy and endogenous oscillation in interest rates. It is argued that a policy of fixing the composition of government liabilities has several advantages if it is known that agents are not too risk averse and that the asymptotic demand for base money is small. If this information is not known, then interest-rate or inflation targeting have an advantage because their consequences are not sensitive to such environmental features.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Monetary Economics.

Volume (Year): 46 (2000)
Issue (Month): 1 (August)
Pages: 97-120

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Handle: RePEc:eee:moneco:v:46:y:2000:i:1:p:97-120

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Web page: http://www.elsevier.com/locate/inca/505566

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References

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  1. Diamond, Douglas W & Dybvig, Philip H, 1983. "Bank Runs, Deposit Insurance, and Liquidity," Journal of Political Economy, University of Chicago Press, vol. 91(3), pages 401-19, June.
  2. Townsend, Robert M, 1987. "Economic Organization with Limited Communication," American Economic Review, American Economic Association, vol. 77(5), pages 954-71, December.
  3. Ireland, Peter N., 1994. "Economic growth, financial evolution, and the long-run behavior of velocity," Journal of Economic Dynamics and Control, Elsevier, vol. 18(3-4), pages 815-848.
  4. Stacey L. Schreft & Bruce D. Smith, 1994. "Money, banking, and capital formation," Working Paper 94-05, Federal Reserve Bank of Richmond.
  5. Bruce Champ & Bruce D. Smith & Stephen D. Williamson, 1996. "Currency Elasticity and Banking Panics: Theory and Evidence," Canadian Journal of Economics, Canadian Economics Association, vol. 29(4), pages 828-64, November.
  6. Michael Woodford, 1998. "Doing Without Money: Controlling Inflation in a Post-Monetary World," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 1(1), pages 173-219, January.
  7. Greenwood, Jeremy & Smith, Bruce D., 1997. "Financial markets in development, and the development of financial markets," Journal of Economic Dynamics and Control, Elsevier, vol. 21(1), pages 145-181, January.
  8. Schreft, Stacey L & Smith, Bruce D, 1998. "The Effects of Open Market Operations in a Model of Intermediation and Growth," Review of Economic Studies, Wiley Blackwell, vol. 65(3), pages 519-50, July.
  9. Stephen D. Williamson, 1995. "Discount Window Lending and Deposit Insurance," Macroeconomics 9504001, EconWPA, revised 18 Apr 1995.
  10. Gordon H. Sellon, Jr. & Stuart E. Weiner, 1996. "Monetary policy without reserve requirements: analytical issues," Economic Review, Federal Reserve Bank of Kansas City, issue Q IV, pages 5-24.
  11. Schreft, S L, 1992. "Transaction Costs and the Use of Cash and Credit," Economic Theory, Springer, vol. 2(2), pages 283-96, April.
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Citations

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Cited by:
  1. Schreft, Stacey L & Smith, Bruce D, 2002. "The Conduct of Monetary Policy with a Shrinking Stock of Government Debt," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 34(3), pages 848-82, August.
  2. Hung, Fu-Sheng, 2005. "Optimal composition of government public capital financing," Journal of Macroeconomics, Elsevier, vol. 27(4), pages 704-723, December.
  3. Stacey Schreft & Bruce Smith, 2008. "The social value of risk-free government debt," Annals of Finance, Springer, vol. 4(2), pages 131-155, March.
  4. repec:dgr:uvatin:2006025 is not listed on IDEAS
  5. Gomis-Porqueras, Pere & Haro, Alex, 2003. "Global dynamics in macroeconomics: an overlapping generations example," Journal of Economic Dynamics and Control, Elsevier, vol. 27(11), pages 1941-1959.
  6. Andreas Schabert, . "Central bank Instruments, Fiscal Policy Regimes, and the Requirements for Equilibrium Determinacy," Working Papers 2003_5, Business School - Economics, University of Glasgow, revised Jan 2003.
  7. Pedro Gomis-Porqueras, 2000. "Global Dynamics In Macroeconomics: A General Equilibrium Example," Computing in Economics and Finance 2000 217, Society for Computational Economics.
  8. Sheri M. Markose & Yiing Jia Loke, 2002. "Can cash hold its own? International comparisons: Theory and evidence," Economics Discussion Papers 536, University of Essex, Department of Economics.

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