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Why is there Money? Convergence to a Monetary Equilibrium in a General Equilibrium Model with Transaction Costs

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  • Ross Starr

    (University of California)

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    Abstract

    This paper presents a class of examples where a nonmonetary economy converges in a tatonnement process to a monetary equilibrium. Exchange takes place in organized markets characterized by an array of trading posts where each pair of goods may be traded for one another. A barter equilibrium with m commodities is characterized by m(m-1)/2 commodity pair trading posts, most of which host active trade. A monetary equilibrium with unique money is characterized by active trade concentrated on m-1 posts, those trading in 'money' versus the m-1 nonmonetary commodities. There are two distinct sources of monetization: absence of double coincidence of wants and scale economies in transaction costs. As households discover that some pairwise markets (those dealing in the 'natural' money or those with high trading volumes) have lower transaction costs, they restructure their trades to take advantage of the low cost. Use of media of exchange arises endogenously from their low transaction cost. Uniqueness of the medium of exchange in equilibrium results from scale economies in the transaction technology.

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    Bibliographic Info

    Paper provided by Econometric Society in its series Econometric Society World Congress 2000 Contributed Papers with number 0058.

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    Date of creation: 01 Aug 2000
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    Handle: RePEc:ecm:wc2000:0058

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    1. Clower, Robert W, 1995. "On the Origin of Monetary Exchange," Economic Inquiry, Western Economic Association International, Western Economic Association International, vol. 33(4), pages 525-36, October.
    2. Banerjee, Abhijit V & Maskin, Eric S, 1996. "A Walrasian Theory of Money and Barter," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 111(4), pages 955-1005, November.
    3. Hahn, F H, 1971. "Equilibrium with Transaction Costs," Econometrica, Econometric Society, Econometric Society, vol. 39(3), pages 417-39, May.
    4. Kiyotaki, Nobuhiro & Wright, Randall, 1989. "On Money as a Medium of Exchange," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 97(4), pages 927-54, August.
    5. Joseph M. Ostroy & Ross M. Starr, 1988. "The Transactions Role of Money," UCLA Economics Working Papers, UCLA Department of Economics 505, UCLA Department of Economics.
    6. Starrett, David A, 1973. "Inefficiency and the Demand for "Money" in a Sequence Economy," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 40(4), pages 437-48, October.
    7. Li, Yiting & Wright, Randall, 1998. "Government Transaction Policy, Media of Exchange, and Prices," Journal of Economic Theory, Elsevier, Elsevier, vol. 81(2), pages 290-313, August.
    8. Joseph M. Ostroy & Ross M. Starr, 1973. "Money and the Decentralization of Exchange," UCLA Economics Working Papers, UCLA Department of Economics 041, UCLA Department of Economics.
    9. Abhijit V. Banerjee & Eric S. Maskin, 1996. "A Walrasian Theory of Money," Harvard Institute of Economic Research Working Papers, Harvard - Institute of Economic Research 1753, Harvard - Institute of Economic Research.
    10. Foley, Duncan K., 1970. "Economic equilibrium with costly marketing," Journal of Economic Theory, Elsevier, Elsevier, vol. 2(3), pages 276-291, September.
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    Cited by:
    1. Cochrane, John H., 2005. "Money as stock," Journal of Monetary Economics, Elsevier, Elsevier, vol. 52(3), pages 501-528, April.

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