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On the socially optimal density of coin and banknote series: Do production costs really matter?

Yassine Bouhdaoui and Leo Van Hove

Journal of Macroeconomics, 2017, vol. 52, issue C, 252-267

Abstract: By adding denominations to their coin and banknote series central banks can increase the efficiency of cash payments. In practice, however, they opt for a denominational structure with a relatively low density. The literature holds that this is because of the production costs involved. To test this proposition, we introduce a per-denomination fixed cost into the matching model of Lee et al. (2005) and parameterize the model with data on the production of US dollar banknotes. Our simulations demonstrate that central banks could increase the density of their currency systems beyond the observed level without the efficiency gains for transactors being dwarfed by the additional production costs for the central bank itself. This suggests that the explanation for the low density rather lies with costs incurred by consumers and merchants - and anticipated by central banks - that are not yet in any of the extant models.

Keywords: Denominational structure; Banknotes; Central bank; Social cost; Matching model (search for similar items in EconPapers)
JEL-codes: E40 E42 E47 (search for similar items in EconPapers)
Date: 2017
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Handle: RePEc:eee:jmacro:v:52:y:2017:i:c:p:252-267