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Modeling monetary economies: an equivalence result

  • Camera, Gabriele
  • Chien, YiLi

We present a thought-provoking study of two monetary models: the cash-in-advance and the Lagos and Wright (2005) models. The different approaches to modeling money—reduced-form vs. explicit role—neither induce fundamental theoretical nor quantitative differences in results. Given conformity of preferences, technologies and shocks, both models reduce to equilibrium difference equations that coincide unless price distortions are differentially imposed on cash prices, across models. Equal distortions support equally large welfare costs of inflation. Performance differences stem from unequal assumptions about the pricing mechanism that governs cash transactions, not the differential modeling of the monetary exchange process.

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Paper provided by Federal Reserve Bank of St. Louis in its series Working Papers with number 2013-009.

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Length: 18 pages
Date of creation: 2013
Date of revision: 01 Nov 2015
Handle: RePEc:fip:fedlwp:2013-009
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  1. Jonathan Chiu & Miguel Molico, 2007. "Liquidity, Redistribution, and the Welfare Cost of Inflation," Staff Working Papers 07-39, Bank of Canada.
  2. Aleksander Berentsen & Gabriele Camera & Christopher Waller, 2005. "Money, Credit and Banking," CESifo Working Paper Series 1617, CESifo Group Munich.
  3. Ping He & Lixin Huang & Randall Wright, 2005. "Money And Banking In Search Equilibrium," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 46(2), pages 637-670, 05.
  4. Paola Boel & Gabriele Camera, 2009. "Financial Sophistication and the Distribution of the Welfare Cost of Inflation," Purdue University Economics Working Papers 1222, Purdue University, Department of Economics.
  5. Lucas, Robert Jr., 1986. "Principles of fiscal and monetary policy," Journal of Monetary Economics, Elsevier, vol. 17(1), pages 117-134, January.
  6. Lucas, Robert Jr., 1982. "Interest rates and currency prices in a two-country world," Journal of Monetary Economics, Elsevier, vol. 10(3), pages 335-359.
  7. Lucas, Robert E, Jr, 1980. "Equilibrium in a Pure Currency Economy," Economic Inquiry, Western Economic Association International, vol. 18(2), pages 203-20, April.
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