The Extrinsic Value of Low-Denomination Money Holdings

Allan Hernandez-Chanto

MPRA Paper from University Library of Munich, Germany

Abstract: There have been many episodes in history where low-denomination money holdings have been exchanged with a premium over its face value. The most recent occurred in Panama only twenty five years ago, under a modern banking system. In such episodes, even where there is an entity capable to provide convertibility of money holdings at a fixed rate, and when agents expect this rate to prevail in the long run, arbitrage possibilities in the denomination of money arise as a consequence of a shortage of liquid assets and the presence of low prices in the economy. Despite of its relevance and recurrence, this phenomenon cannot be explained by current models of fiat money. To explain it we need a model where: (i) fiat money comes in different denominations which are used as a medium of exchange, (ii) there is an entity that provides convertibility of denominations at fixed rate, (iii) the natural rate is a feasible equilibrium of the model, and (iv) there are parameterizations where low denomination money holdings are given an extrinsic value. In this paper we build a money search model with all this characteristics and determine theoretically the specific conditions under which such equilibrium naturally arises.

Keywords: Convertibility; Extrinsic value; Money holdings; Poisson technology (search for similar items in EconPapers)
JEL-codes: E50 E52 (search for similar items in EconPapers)
Date: 2016-01-15, Revised 2016-01-15
New Economics Papers: this item is included in nep-ger, nep-his, nep-mac, nep-mon and nep-pay
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Related works:
Journal Article: The extrinsic value of low-denomination money holdings (2020)
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