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Limited commitment and the demand for money

Author

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  • Aleksander Berentsen
  • Samuel Huber
  • Alessandro Marchesiani

Abstract

Understanding money demand is important for our comprehension of macroeconomics and monetary policy. Its instability has made this a challenge. Common explications for the instability are financial regulations and financial innovations that shift the money demand function. We provide a complementary view by showing that a model where borrowers have limited commitment can significantly improve the fit between the theoretical money demand function and the data. Limited commitment can also explain why the ratio of credit to Ml is currently so low, despite that nominal interest rates are at their lowest recorded levels. In a low interest rate environment, incentives to default are high and so credit constraints bind tightly, which depresses credit activities.

Suggested Citation

  • Aleksander Berentsen & Samuel Huber & Alessandro Marchesiani, 2015. "Limited commitment and the demand for money," ECON - Working Papers 199, Department of Economics - University of Zurich, revised Feb 2016.
  • Handle: RePEc:zur:econwp:199
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    References listed on IDEAS

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    Cited by:

    1. Berentsen, Aleksander & Huber, Samuel & Marchesiani, Alessandro, 2016. "The societal benefit of a financial transaction tax," European Economic Review, Elsevier, vol. 89(C), pages 303-323.

    More about this item

    Keywords

    Money demand; financial intermediation; limited commitment;

    JEL classification:

    • D9 - Microeconomics - - Micro-Based Behavioral Economics
    • E4 - Macroeconomics and Monetary Economics - - Money and Interest Rates
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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