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Production, Hidden Action, and the Payment System

In this paper, we study a model economy that can account for the distribution of payments within a day. In our model, debtors choose when to arrive at the settlement location. Concomitant with choosing their arrival, debtors are making a production decision. We assume there is a cost to arriving early; that is, late-arrival is associated with a technology that dominates early arrival/production. Second, we treat the debtor's choice as hidden from creditors. We derive conditions under which the planner allocates production to each type of agents. In the decentralized setting, there is a nonarbitrage condition that is consistent with a positive intraday rate. The central bank may be able to implement the planner's allocation with a proper intraday interest rate. In some cases, the optimal intraday rate is positive.

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Paper provided by Department of Economics, University of Missouri in its series Working Papers with number 1004.

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Length: 25 pgs.
Date of creation: 15 Mar 2010
Date of revision:
Publication status: Published in Journal of Monetary Economics 2011
Handle: RePEc:umc:wpaper:1004
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  1. James T. E. Chapman & Antoine Martin, 2007. "Rediscounting Under Aggregate Risk with Moral Hazard," Staff Working Papers 07-51, Bank of Canada.
  2. Stephen D. Williamson & Randall Wright, 2010. "New Monetarist Economics: methods," Staff Report 442, Federal Reserve Bank of Minneapolis.
  3. Bech, Morten L. & Garratt, Rod, 2001. "The Intraday Liquidity Management Game," University of California at Santa Barbara, Economics Working Paper Series qt0m6035wg, Department of Economics, UC Santa Barbara.
  4. Gu, Chao & Guzman, Mark & Haslag, Joseph, 2011. "Production, hidden action, and the payment system," Journal of Monetary Economics, Elsevier, vol. 58(2), pages 172-182, March.
  5. Antoine Martin, 2008. "Reconciling Bagehot with the Fed's response to September 11," Staff Reports 217, Federal Reserve Bank of New York.
  6. Freeman, Scott, 1996. "The Payments System, Liquidity, and Rediscounting," American Economic Review, American Economic Association, vol. 86(5), pages 1126-38, December.
  7. Jeffrey M. Lacker, 1997. "Clearing, settlement, and monetary policy," Working Paper 97-01, Federal Reserve Bank of Richmond.
  8. Green, Edward-J, 1997. "Money and Debt in the Structure of Payments," Monetary and Economic Studies, Institute for Monetary and Economic Studies, Bank of Japan, vol. 15(1), pages 63-87, May.
  9. Antoine Martin & James J. McAndrews, 2008. "Should there be intraday money markets?," Staff Reports 337, Federal Reserve Bank of New York.
  10. Freeman, Scott, 1999. "Rediscounting under aggregate risk," Journal of Monetary Economics, Elsevier, vol. 43(1), pages 197-216, February.
  11. Antoine Martin, 2002. "Optimal pricing of intra-day liquidity," Research Working Paper RWP 02-02, Federal Reserve Bank of Kansas City.
  12. David C. Mills, Jr, 2004. "Mechanism Design and the Role of Enforcement in Freeman's Model of Payments," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 7(1), pages 219-236, january.
  13. Olivier Armantier & Jeffrey Arnold & James J. McAndrews, 2008. "Changes in the timing distribution of Fedwire funds transfers," Economic Policy Review, Federal Reserve Bank of New York, issue Sep, pages 83-112.
  14. Diamond, Douglas W & Dybvig, Philip H, 1983. "Bank Runs, Deposit Insurance, and Liquidity," Journal of Political Economy, University of Chicago Press, vol. 91(3), pages 401-19, June.
  15. Joydeep Bhattacharya & Joseph H. Haslag & Antoine Martin, 2007. "Why does overnight liquidity cost more than intraday liquidity?," Staff Reports 281, Federal Reserve Bank of New York.
  16. Angelini, Paolo, 1998. "An analysis of competitive externalities in gross settlement systems," Journal of Banking & Finance, Elsevier, vol. 22(1), pages 1-18, January.
  17. Scott Freeman, 2002. "Payments and Output," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 5(3), pages 602-617, July.
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