The impact of paying interest on reserves in the presence of government deficit financing

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The impact of paying interest on reserves in the presence of government deficit financing

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Mark G. Guzman () (Department of Eocnomics, University of Reading)

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Mark G. Guzman

Abstract

This paper re-examines the impact that paying interest on reserves has on price level indeterminacy, volatility, and economic well-being. Unlike the previous literature, this model includes an after-tax deficit that must be financed by assets (bonds and reserves) whose returns are linked. I show the number of steady state equilibria is equal to, or greater than, the number arising in the nointerest economy. Consequently, the level of indeterminacy is equal to, or greater than, in the no-interest economy. When the level of indeterminacy is the same, then economic volatility is reduced by paying interest. However, greater indeterminacy in the interest economy, results in greater volatility. Paying interest on reserves can enhance welfare and, under certain conditions, unpleasant monetarist arithmetic may also obtain.

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Paper provided by Henley Business School, Reading University in its series Economic Analysis Research Group Working Papers with number earg-wp2006-08.

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Length: 37 pages
Date of creation: 2006
Date of revision:
Handle: RePEc:rdg:eargwp:earg-wp2006-08

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Article
- Mark G. Guzman, 2008. "The Impact Of Paying Interest On Reserves In The Presence Of Government Deficit Financing," Economic Inquiry, Western Economic Association International, vol. 46(4), pages 624-642, October. [Downloadable!] (restricted)
Paper
- Mark G. Guzman, 2007. "The Impact of Paying Interest on Reserves in the Presence of Government Deficit Financing," Money Macro and Finance (MMF) Research Group Conference 2006 92, Money Macro and Finance Research Group. [Downloadable!]
- Mark G. Guzman, 2006. "The impact of paying interest on reserves in the presence of government deficit financing," Economics & Management Discussion Papers em-dp2006-39, Henley Business School, Reading University. [Downloadable!]
- Mark G. Guzman, 2004. "The impact of paying interest on reserves in the presence of government deficit financing," Working Papers 04-06, Federal Reserve Bank of Dallas. [Downloadable!]

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Other versions:
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Other versions:
- Scott Freeman & Joseph H. Haslag, 1993. "On the optimality of interest-bearing reserves in economies of overlapping generations," Research Paper 9328, Federal Reserve Bank of Dallas. [Downloadable!]
- Freeman, Scott & Haslag, Joseph H, 1996. "On the Optimality of Interest-Bearing Reserves in Economies of Overlapping Generations," Economic Theory, Springer, vol. 7(3), pages 557-65, April.
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Other versions:
- Bhattacharya, Joydeep & Guzman, M. & Smith, B.D., 2002. "Some Even More Unpleasant Monetarist Arithmetic," Staff General Research Papers 5084, Iowa State University, Department of Economics.
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Other versions:
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repec:bep:maccon:v:2:y:2002:i:1:p:1038-1038 is not listed on IDEAS
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- Robert E. Hall, 1999. "Controlling the Price Level," NBER Working Papers 6914, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
Marco Espinosa & Steven Russell, 1998. "Can a Policy of Higher Inflation Reduce Real Interests in the Long Run?," Canadian Journal of Economics, Canadian Economics Association, vol. 31(1), pages 92-103, February.
Neil Wallace, 1984. "Some of the choices for monetary policy," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win. [Downloadable!]
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