Government transaction policy and Gresham's law

Abstract

A search-theoretic model is used to study how legal restrictions may account for the fact that Gresham's law sometimes holds but other times fails. Legal restrictions is modeled here as policies that government adopts in the transactions with private agents, such as at what prices it accepts a currency in exchange for goods and at what ratios it conducts currency exchange. A government policy sufficiently favorable to light coins can induce the existence of an equilibrium where both coins circulate and light coins are even accepted at a premium. A policy favorable to heavy coins may increase their value to such an extent that they are hoarded from circulation, when this equilibrium did not exist without interventions. r

On the Threat of Counterfeiting

“…In order to re…ne the beliefs further, we follow NW and adopt a forward-induction argument, in spirit of the Intuitive Criterion of Cho and Kreps (1987). 14…”

On the Threat of Counterfeiting

“…8 This rules out the possibility that genuine money is exchanged for a counterfeit note plus some output. See, e.g., Aiygari, Wallace and Wright (1996) and Li (2002). 9 We could adopt di¤erent matching technologies without a¤ecting the main results (see, e.g., Li and Rocheteau 2008).…”

Currency restrictions, government transaction policies and currency exchange

“…In Aiyagari, Wallace and Wright [1], Li [6] and Peterson [10] currency exchange can occur in single coincidence matches between two money holders. If the agent holding the higher value currency wants the other agent's good, he trades the high valued currency for the lower valued currency plus some goods.…”

“…This assumption simplifies the model by eliminating currency exchange of the type considered by Aiyagari, Wallace and Wright [1], Li [6] and Peterson [10] in which, should a single coincidence of wants occur, a high valued money holder gives up his unit of currency for a lower valued currency plus some goods. For these types of trades to occur, an agent would have to produce in two consecutive matches, which is ruled out by the assumption that agents must consume before producing.…”

“…Given these bargaining conditions, in order for the buyers to be willing to engage in an equilibrium trade with a seller, i.e., σ k ij = 1, it must be the case that u(q ij ) − c(q ij ) ≥ 0 for i = 1, 2, j = 1, 2, g. Note that setting all of the q's to zero solves (3)- (6), which corresponds to the non-monetary equilibrium.…”