Monetary Policy and Efficiency in Over-the-Counter Financial Trade

Athanasios Geromichalos and Kuk Mo Jung ()
Additional contact information
Kuk Mo Jung: Department of Economics, Sogang University, Seoul

No 1903, Working Papers from Nam Duck-Woo Economic Research Institute, Sogang University (Former Research Institute for Market Economy)

Abstract: We develop a monetary model that incorporates Over-the-Counter (OTC) asset trade. After agents have made their money holding decisions, they receive an idiosyncratic shock that affects their valuation for consumption and, hence, for the unique liquid asset, namely, money. Subse- quently, agents can choose whether they want to enter the OTC market in order to sell assets and, thus, boost their liquidity, or to buy assets and, thus, provide liquidity to other agents. In our model inflation affects not only the money holding decisions of agents, as is standard in monetary theory, but also the entry decision of these agents in the financial market. We use our framework to study the effect of inflation on welfare, asset prices, and OTC trade volume. In contrast to most monetary models, which predict a negative relationship between inflation and welfare, we find that inflation can be welfare improving within a certain range, because it mitigates a search externality that agents impose on one another when they make their OTC market entry decision. Also, an increase in the holding cost of money will lead to a decrease in asset prices, a regularity which is well-documented in the data and often considered anomalous.

Keywords: monetary-search models; liquidity; asset prices; over-the-counter markets (search for similar items in EconPapers)
JEL-codes: E31 E50 E52 G12 (search for similar items in EconPapers)
Pages: 52 pages
Date: 2019
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

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https://tinyurl.com/yozxo4vs First version, 2019 (application/pdf)

Related works:
Journal Article: Monetary policy and efficiency in over-the-counter financial trade (2019)
Working Paper: Monetary Policy and Efficiency in Over-the-Counter Financial Trade (2016)
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Persistent link: https://EconPapers.repec.org/RePEc:sgo:wpaper:1903

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