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Intermediaries and payments instruments

  • James B. Bullard
  • Bruce D. Smith

We study an economy in which intermediaries have incentives to issue circulating liabilities as part of an equilibrium. We show that, with arbitrarily small transactions costs, only the liabilities of intermediaries will circulate, and not those of other private sector agents. Therefore, our model connects intermediation activity with the issuance of payments media, a connection that has not been made in earlier literature. We also describe conditions under which equilibrium outcomes may be volatile when private liabilities circulate. Finally, we use our model to suggest a resolution of the "banknote underissue puzzle" of Cagan (1993).

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Paper provided by Federal Reserve Bank of St. Louis in its series Working Papers with number 2002-006.

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Date of creation: 2002
Date of revision:
Handle: RePEc:fip:fedlwp:2002-006
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  1. Champ, B. & Smith, B.D., 1991. "Currency Elasticity and Banking Panics: theory and Evidence," University of Western Ontario, The Centre for the Study of International Economic Relations Working Papers 9109, University of Western Ontario, The Centre for the Study of International Economic Relations.
  2. Thomas J. Sargent & Neil Wallace, 1983. "A model of commodity money," Staff Report 85, Federal Reserve Bank of Minneapolis.
  3. Bruce A. Champ & Scott Freeman & Warren E. Weber, 1999. "Redemption costs and interest rates under the U.S. National Banking System," Proceedings, Federal Reserve Bank of Cleveland, pages 568-595.
  4. John H. Boyd & Edward C. Prescott, 1985. "Financial intermediary-coalitions," Staff Report 87, Federal Reserve Bank of Minneapolis.
  5. Joseph M. Ostroy & Ross M. Starr, 1973. "Money and the Decentralization of Exchange," Cowles Foundation Discussion Papers 349, Cowles Foundation for Research in Economics, Yale University.
  6. Douglas W. Diamond & Philip H. Dybvig, 2000. "Bank runs, deposit insurance, and liquidity," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 14-23.
  7. Stephen D. Williamson, 1984. "Costly Monitoring, Financial Intermediation, and Equilibrium Credit Rationing," Working Papers 583, Queen's University, Department of Economics.
  8. Champ, Bruce & Wallace, Neil & Weber, Warren E., 1994. "Interest rates under the U.S. national banking system," Journal of Monetary Economics, Elsevier, vol. 34(3), pages 343-358, December.
  9. Kiyotaki, Nobuhiro & Wright, Randall, 1989. "On Money as a Medium of Exchange," Journal of Political Economy, University of Chicago Press, vol. 97(4), pages 927-54, August.
  10. James B. Bullard & Bruce D. Smith, 2001. "The value of inside and outside money," Working Papers 2000-027, Federal Reserve Bank of St. Louis.
  11. Townsend, Robert M, 1987. "Economic Organization with Limited Communication," American Economic Review, American Economic Association, vol. 77(5), pages 954-71, December.
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