Money, Payments, and Liquidity, second edition / Edition 2

by Guillaume Rocheteau, Ed Nosal

Overview

A new edition of a book presenting a unified framework for studying the role of money and liquid assets in the economy, revised and updated.

In Money, Payments, and Liquidity, Guillaume Rocheteau and Ed Nosal provide a comprehensive investigation into the economics of money, liquidity, and payments by explicitly modeling the mechanics of trade and its various frictions (including search, private information, and limited commitment). Adopting the last generation of the New Monetarist framework developed by Ricardo Lagos and Randall Wright, among others, Nosal and Rocheteau provide a dynamic general equilibrium framework to examine the frictions in the economy that make money and liquid assets play a useful role in trade. They discuss such topics as cashless economies; the properties of an asset that make it suitable to be used as a medium of exchange; the optimal monetary policy and the cost of inflation; the coexistence of money and credit; and the relationships among liquidity, asset prices, monetary policy; and the different measures of liquidity in over-the-counter markets.

The second edition has been revised to reflect recent progress in the New Monetarist approach to payments and liquidity. Rocheteau and Nosal have added three new chapters: on unemployment and payments, on asset price dynamics and bubbles, and on crashes and recoveries in over-the-counter markets. The chapter on the role of money has been entirely rewritten, adopting a mechanism design approach. Other chapters have been revised and updated, with new material on credit economies under limited commitment, open-market operations and liquidity traps, and the limited pledgeability of assets under informational frictions.

Product Details

ISBN-13:	9780262533270
Publisher:	MIT Press
Publication date:	05/19/2017
Series:	The MIT Press
Edition description:	second edition
Pages:	504
Product dimensions:	5.90(w) x 8.80(h) x 1.00(d)
Age Range:	18 Years

About the Author

Guillaume Rocheteau is Professor of Economics at the University of California, Irvine.

Ed Nosal is Vice President and Senior Research Advisor at the Federal Reserve Bank of Chicago.

Table of Contents

Acknowledgments xi

Preface to the Second Edition xiii

General Introduction xv

1 The Basic Environment 1

1.1 Benchmark Model 2

1.2 Variants of the Benchmark Model 6

1.3 Further Readings 6

2 Pure Credit Economies 9

2.1 Credit with Commitment 10

2.2 Credit Default 15

2.3 Credit with Public Record-Keeping 19

2.4 Credit Equilibria with Endogenous Debt Limits 23

2.5 Dynamic Credit Equilibria 29

2.6 Strategic Default in Equilibrium 30

2.7 Credit with Reputation 32

2.8 Further Readings 38

3 Pure Currency Economies 43

3.1 A Model of Divisible Money 44

3.1.1 Steady-State Equilibria 52

3.1.2 Nonstationary Equilibria 53

3.1.3 Sunspot Equilibria 57

3.2 Alternative Bargaining Solutions 58

3.2.1 Bargaining Set 59

3.2.2 The Nash Solution 61

3.2.3 The Proportional Solution 64

3.3 Walrasian Price Taking 66

3.4 Competitive Price Posting 68

3.5 Further Readings 73

4 The Role of Money 81

4.1 A Mechanism Design Approach to Monetary Exchange 82

4.2 Efficient Allocations with Indivisible Money 88

4.3 Two-Sided Match Heterogeneity 92

4.3.1 The Barter Economy 93

4.3.2 The Monetary Economy 97

4.4 Further Readings 104

5 Properties of Money 107

5.1 Divisibility of Money 109

5.1.1 Currency Shortage 110

5.1.2 Indivisible Money and Lotteries 114

5.1.3 Divisible Money 117

5.2 Portability of Money 119

5.3 Recognizability of Money 123

5.4 Further Readings 127

6 The Optimum Quantity of Money 133

6.1 Optimality of the Friedman Rule 135

6.2 Interest on Currency 139

6.3 Friedman Rule and the First Best 141

6.4 Feasibility of the Friedman Rule 143

6.5 Trading Frictions and the Friedman Rule 145

6.6 Distributional Effects of Monetary Policy 151

6.7 The Welfare Cost of Inflation 155

6.8 Further Readings 159

7 Information, Monetary Policy, and the Inflation-output Trade-off 163

7.1 Stochastic Money Growth 164

7.2 Bargaining Under Asymmetric Information 169

7.3 Equilibrium Under Asymmetric Information 176

7.4 The Inflation and Output Trade-Off 179

7.5 An Alternative Information Structure 186

7.6 Further Readings 189

8 Money and Credit 197

8.1 Dichotomy Between Money and Credit 199

8.2 Money and Credit Under Limited Commitment 203

8.3 Costly Record-Keeping 211

8.4 Strategic Complementarities and Payments 216

8.5 Credit and Reallocation of Liquidity 223

8.6 Short-Term and Long-Term Partnerships 228

8.7 Further Readings 233

9 Firm Entry, Unemployment, and Payments 239

9.1 A Model with Firms 240

9.2 Firm Entry and Liquidity 242

9.3 Fractional Labor Market 249

9.4 Unemployment, Money and Credit 255

9.5 Unemployment and Credit under Limited Commitment 258

9.6 Further Readings 260

10 Money, Negotiable Debt, and Settlement 263

10.1 The Environment 264

10.2 Frictionless Settlement 267

10.3 Settlement and Liquidity 270

10.4 Settlement and Default Risk 275

10.5 Settlement and Monetary Policy 279

10.6 Further Readings 281

11 Money and Capital 285

11.1 Linear Storage Technology 286

11.2 Concave Storage Technology 291

11.2.1 Nonmonetary Equilibria 291

11.2.2 Monetary Equilibria 293

11.3 Capital and Inflation 294

11.4 A Mechanism Design Approach 296

11.5 Further Readings 303

12 Exchange Rates, Nominal Bonds, and Open Market Operations 305

12.1 Dual Currency Payment Systems 306

12.1.1 Indeterminacy of the Exchange Rate 307

12.1.2 Cash-in-Advance with a Twist in a Two-Country Model 308

12.2 Money and Nominal Bonds 313

12.2.1 The Rate-of-Return Dominance Puzzle 314

12.2.2 Money and Illiquid Bonds 316

12.3 Recognizability and Rate-of-Return Dominance 317

12.4 Pairwise Trade and Rate-of-Return Dominance 323

12.5 Segmented Markets, Open Market Operations, and Liquidity Traps 325

22.6 Further Readings 333

13 Liquidity, Monetary Policy, and Asset Prices 335

13.1 A Monetary Approach to Asset Prices 336

13.2 Monetary Policy and Asset Prices 341

13.3 Risk and Liquidity 345

13.4 The Liquidity Structure of Assets' Yields 349

13.5 Costly Acceptability 354

13.6 Pledgeability and the Threat of Fraud 361

13.7 Further Readings 371

14 Asset Price Dynamics 377

14.1 Asset Prices with Perfect Credit 378

14.2 Asset Prices when Liquidity is Essential 381

14.3 Dynamic Equilibria 386

14.4 Stochastic Equilibria 391

14.5 Public Liquidity Provision 393

14.6 Further Readings 394

15 Trading Frictions in Over-the-counter Markets 397

15.1 The Environment 398

15.2 Equilibrium 400

15.3 Trading Frictions and Asset Prices 406

15.4 Intermediation Fees and bid-ask Spreads 409

15.5 Trading Delays 411

15.6 Further Readings 416

16 Crashes and Recoveries in Over-the-counter Markets 419

16.1 The Environment 420

16.2 Dealers, Investors, and Bargaining 420

16.3 Equilibrium 426

16.4 Efficiency 427

16.5 Crash and Recovery 430

16.6 Further Readings 435

Bibliography 437

Index 461

What People are Saying About This

Randall Wright

This is state-of-the-art economics—the topics are important and interesting, the microfoundations constitute the very best of research in macro and monetary theory, and the presentation is first rate. I read and taught from the first edition, and it was always a tremendous resource for both teacher and student. The second edition has made some of the previous material even better, and includes several very important developments made over the last few years. I highly recommend this book to anyone who is serious about macro, finance, and monetary economics.

Thomas Sargent

This clearly written and carefully crafted book identifies fundamental questions that a good theory of money should be designed to answer, then offers convincing examples of insights about practical problems borne by their theory. The authors' status as leading creators of the tools that they describe so well comes through clearly in the conviction and clarity with which they write good economics.

Endorsement

This is state-of-the-art economics—the topics are important and interesting, the microfoundations constitute the very best of research in macro and monetary theory, and the presentation is first rate. I read and taught from the first edition, and it was always a tremendous resource for both teacher and student. The second edition has made some of the previous material even better, and includes several very important developments made over the last few years. I highly recommend this book to anyone who is serious about macro, finance, and monetary economics.

—Randall Wright, Ray Zemon Professor of Liquid Assets, University of Wisconsin, Madison

From the Publisher

This clearly written and carefully crafted book identifies fundamental questions that a good theory of money should be designed to answer, then offers convincing examples of insights about practical problems borne by their theory. The authors' status as leading creators of the tools that they describe so well comes through clearly in the conviction and clarity with which they write good economics.

— Thomas Sargent , New York University

A terrific book on modern monetary theory that guides students right up to the research frontier where monetary economics and finance have joined forces to deliver an exciting new approach to asset valuation with frictions.

— Martin Schneider , Professor of Economics, Stanford University

This is state-of-the-art economics—the topics are important and interesting, the microfoundations constitute the very best of research in macro and monetary theory, and the presentation is first rate. I read and taught from the first edition, and it was always a tremendous resource for both teacher and student. The second edition has made some of the previous material even better, and includes several very important developments made over the last few years. I highly recommend this book to anyone who is serious about macro, finance, and monetary economics.

— Randall Wright , Ray Zemon Professor of Liquid Assets, University of Wisconsin, Madison

Martin Schneider

A terrific book on modern monetary theory that guides students right up to the research frontier where monetary economics and finance have joined forces to deliver an exciting new approach to asset valuation with frictions.