E2019001                                  2019-01-08

Money and Credit: Theory and Applications

Liang Wang

University of Hawaii - Manoa

Randall Wright

FRB Chicago, FRB Minneapolis and University of Wisconsin- Madison

Lucy Qian Liu

International Monetary Fund

Abstract

We develop a theory of money and credit as competing payment instruments, then put it to work in applications. Agents use cash and credit because the former (latter) is subject to the inflation tax (transaction costs). Frictions that make the choice of payment method interesting also imply equilibrium price dispersion. We derive closed-form solutions for money demand, and show how to simultaneously account for the price-change facts, cash-credit shares in micro data, and money-interest correlations in macro data. The effects of inflation on welfare, price dispersion and markups are discussed, as are nonstationary equilibria with dynamics in the price distribution.
JEL classication: E31, E42, E51, E52
Keywords: Money, Credit, Inflation, Price Dispersion, Sticky Prices
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