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Circulation of private notes during a currency shortage

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Abstract

This paper provides a search theoretical model that captures two phenomena that have characterized several episodes of monetary history: currency shortages and the circulation of privately issued notes. As usual in these models, the media of exchange are determined as part of the equilibrium. We characterize all the different equilibria and specify the conditions under which there is a currency shortage and/or privately issued notes are used as means of payment. There is multiplicity of equilibria for the entire parameter space, but there always exist an equilibrium in which notes circulate, either alone or together with coins. Hence, credit is a self-fulfilling phenomenon that depends on the beliefs of agents about the acceptability and future repayment of notes. The degree of circulation of coins depends on two crucial parameters, the intrinsic utility of holding coins and the extent with which it is possible to find exchange opportunities in the market.

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Bibliographic Info

Paper provided by Department of Economics and Business, Universitat Pompeu Fabra in its series Economics Working Papers with number 811.

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Date of creation: Mar 2005
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Handle: RePEc:upf:upfgen:811

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Web page: http://www.econ.upf.edu/

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Keywords: money; notes; search; credit; currency shortage;

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  1. Redish, Angela, 1984. "Why Was Specie Scarce in Colonial Economies? An Analysis of the Canadian Currency, 1796–1830," The Journal of Economic History, Cambridge University Press, vol. 44(03), pages 713-728, September.
  2. François R. Velde & Warren E. Weber & Randall Wright, 1999. "A Model of Commodity Money, with Applications to Gresham's Law and the Debasement Puzzle," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 2(1), pages 291-323, January.
  3. Scott Freeman, 1993. "Clearinghouse banks and banknote over-issue," Research Paper 9326, Federal Reserve Bank of Dallas.
  4. Jin, Yi & Temzelides, Ted, 1998. "On the Local Interaction of Money and Credit," Working Papers 99-05, University of Iowa, Department of Economics.
  5. Williamson, S.D., 1998. "Private Money," Working Papers 98-09, University of Iowa, Department of Economics.
  6. Ricardo de O. Cavalcanti & Neil Wallace, 1999. "A model of private bank-note issue," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 2(1), pages 104-136, January.
  7. Neil Wallace & Ruilin Zhou, 1996. "A model of a currency shortage," Working Papers 569, Federal Reserve Bank of Minneapolis.
  8. Townsend, Robert M, 1989. "Currency and Credit in a Private Information Economy," Journal of Political Economy, University of Chicago Press, vol. 97(6), pages 1323-44, December.
  9. Bullard, James & Smith, Bruce D., 2003. "The value of inside and outside money," Journal of Monetary Economics, Elsevier, vol. 50(2), pages 389-417, March.
  10. James Bullard & Bruce D. Smith, 2002. "Intermediaries and payments instruments," Working Papers 2002-006, Federal Reserve Bank of St. Louis.
  11. Bernhardt, Dan, 1989. "Money and Loans," Review of Economic Studies, Wiley Blackwell, vol. 56(1), pages 89-100, January.
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