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Demonetization as a Payments System Shock under Goods and Financial Market Segmentation: A Short Run Analysis

Parag Waknis ()

MPRA Paper from University Library of Munich, Germany

Abstract: A surprise demonetization, where certain or all denominations of currency notes cease to be legal tender on a short notice, can be understood as a severe payment system shock requiring agents to immediately shift to alternative payment mechanisms. I use a short-term macroeconomic model based on Willamson (2009) featuring goods and financial market segmentation to analyze the effect of such a shock in an economy with substantial informality and cash dependence. The quantitative characterization of the equilibrium dynamics using a deterministic example shows significant level as well as redistributive effects in the very short run. The households with access to formal financial markets experience an increase in consumption and those without such access experience a decline. Most of these effects come from differential access to formal financial markets as a consumption smoothing mechanism.

Keywords: demonetization; segmented markets; payments systems (search for similar items in EconPapers)
JEL-codes: E26 E42 E52 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-dge, nep-fdg, nep-iue, nep-mac, nep-mon and nep-pay
Date: 2019-05-28
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