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On Transactions and Precautionary Demand for Money

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  • Jacob A. Frenkel
  • Boyan Jovanovic

Abstract

This paper develops a stochastic framework for determining transactions and precautionary demand for money. Through application of the principles of inventory management, the analysis integrates and extends the work of Baumol, Tobin, and Miller and Orr. Optimal money holdings are shown to depend on the rate of interest, on the mean and the variance of net disbursements and on the cost of portfolio adjustment. The properties of the distribution of the payment period are analyzed. The optimal solution is obtained by minimizing net present value of cost. This solution is compared with the one obtained by the conventional method of minimizing the steady-state cost.

Suggested Citation

  • Jacob A. Frenkel & Boyan Jovanovic, 1980. "On Transactions and Precautionary Demand for Money," The Quarterly Journal of Economics, Oxford University Press, vol. 95(1), pages 25-43.
  • Handle: RePEc:oup:qjecon:v:95:y:1980:i:1:p:25-43.
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    References listed on IDEAS

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    1. Fischer, Stanley, 1975. "The Demand for Index Bonds," Journal of Political Economy, University of Chicago Press, vol. 83(3), pages 509-534, June.
    2. G. C. Archibald & J. Richmond, 1971. "On the Theory of Foreign Exchange Reserve Requirements," Review of Economic Studies, Oxford University Press, vol. 38(2), pages 245-263.
    3. John Makin, 1974. "Exchange rate flexibility and the demand for international reserves," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 110(2), pages 229-243, June.
    4. William J. Baumol, 1952. "The Transactions Demand for Cash: An Inventory Theoretic Approach," The Quarterly Journal of Economics, Oxford University Press, vol. 66(4), pages 545-556.
    5. Barro, Robert J, 1970. "Inflation, the Payments Period, and the Demand for Money," Journal of Political Economy, University of Chicago Press, vol. 78(6), pages 1228-1263, Nov.-Dec..
    6. Edward L. Whalen, 1966. "A Rationalization of the Precautionary Demand for Cash," The Quarterly Journal of Economics, Oxford University Press, vol. 80(2), pages 314-324.
    7. Tsiang, S C, 1969. "The Precautionary Demand for Money: An Inventory Theoretical Analysis," Journal of Political Economy, University of Chicago Press, vol. 77(1), pages 99-117, Jan./Feb..
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