A Repeated Model of the International Monetary System without Direct Default Costs

Rongyu Wang and Tim Worrall
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Tim Worrall: School of Economics, University of Edinburgh

No 318, Edinburgh School of Economics Discussion Paper Series from Edinburgh School of Economics, University of Edinburgh

Abstract: This paper considers a repeated version of the International Monetary System model of Fahri and Maggiore (2018) without a direct default cost. Issuance of a safe asset by the Hegemon is sustained by a no-default condition that trades off the short-term benefit of default against the continuation value of not defaulting. In this model, it is optimal for the Hegemon to maintain a constant issuance. The constant issuance policy may however, be unstable. In particular, the no-default condition links current issuance to issuance in the previous period. If the Hegemon adopts a simple, but short-sighted, heuristic rule that bases current issuance on the issuance in the previous period, then the constant issuance policy is unstable. If however, the Hegemon uses a heuristic that targets the demand for risky assets from the rest of the world, then the corresponding equilibrium is stable.

Keywords: International Monetary System; Reserve Currency; Safe Asset; Triffen Dilemma; Instability (search for similar items in EconPapers)
JEL-codes: C61 F33 G15 (search for similar items in EconPapers)
Pages: 14 pages
Date: 2025-02
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