MONETARY THEORY

4th Module, 2002/2003

Instructor: Alexei Deviatov

Course description: This is an advanced elective course which covers a broad range of topics in monetary theory. The emphasis is put on models which make use of “nice” micro foundations of money. These models represent a new rapidly growing body of literature which emphasizes three important kinds of frictions which make money essential. These are idiosyncratic uncertainty about production and consumption opportunities, lack of monitoring of past actions of individuals and a small group trade –aconsiderable deviation from complete Arrow-Debreu markets. This new generation of models allows to obtain new answers to the long-standing questions about money and to answer some of the questions that have never been answered before. This course presents the most influential of these new developments.

Text: There is no specific textbook for this course. The complete list of readings is attached. These readings will be available in the library by the beginning of classes.

Grading: There will be 2 homeworks (30%), a midterm (30%) and a final exam (40%). Homeworks will be given every third week. Due dates and the dates of exams will be announced in class. Although attendance is not mandatory, students are responsible for the readings and for being aware of all oral announcements made in regard to this course. All homework is due to the beginning of class on the due date and will be collected at that time.

Late homework will be accepted and graded, yet a substantial discount will be applied unless you have a valid excuse. As a general policy, no make-up midterm exams are given in this course. If you miss a midterm exam and have a valid excuse, your grade will be based on the remaining elements of the course. In most cases valid excuse is an unforeseen circumstance beyond student’s control such as illness or family emergency. If you are unable to participate in the important elements of this course because of a circumstance which qualifies as a valid excuse, please notify instructor as soon as possible. Please be ready to provide written evidence of your situation. Note that it is a responsibility of the instructor or of the Dean of Students to determine whether your particular situation qualifies as a valid excuse.

COURSE OUTLINE.

Lecture 1. Nice micro foundations of money: why should we care?
Read: [19], [18], [16].

Lecture 2. A search-theoretic approach to monetary economics. Case of indivisible goods and indivisible money.
Read: [10].

Lecture 3. Random matching models of money: one setup. Mechanism design, implementable allocations, and some alternative notions of implementability.
Read: [7] and lecture notes.

Lecture 4. More on notions of implementability. The ex ante pairwise core implementable and ex ante competitive allocations.
Read: [3] and lecture notes.

Lecture 5. Optimal monetary policy in random matching models. The model of Deviatov and Wallace.
Read: [6].

Lecture 6. Money creation and the ex ante pairwise core implementable allocations.
Read: [7].

Lecture 7. MIDTERM EXAM.

Lecture 8. Money and information. Money is memory. The two-money theorem.
Read: [11] and [12].

Lecture 9. Money and information. Money and credit in a matching model.
Read: [13].

Lecture 10. Money and information. The e.ects of changes in money supply.
Read: [9].

Lecture 11. Coexistence of money and interest bearing assets.
Read: [2].

Lecture 12. Inside and outside money: a comparison.
Read: [5].

Lecture 13. Commodity money.
Read: [4]

Lecture 14. Bridging the gap between models with and without nice micro foundations of money: a new hope for the future.
Read: [14].

References

[1] Boragan Aruoba, Randall Wright. Search, money, and capital: a neoclassical dichotomy. Working paper, University of Pennsylvania, 2002.

[2] Rao Ayiagari, Neil Wallace, Randall Wright. Coexistence of money and interest-bearing securities. Journal of Monetary Economics, 37 (1996), 397-419.

[3] Aleksander Berentsen, Miguel Molico, Randall Wright. Indivisibilities, lotteries and monetary exchange. Journal of Economic Theory, 107 (2002), 70-94.

[4] Kenneth Burdett, Alberto Trejos, Randall Wright. Cigarette money. Journal of Economic Theory, 99 (2001), 117-142.

[5] Ricardo Cavalcanti, Neil Wallace. Inside and outside money as alternative media of exchange. Journal of Money, Credit and Banking, 31 (1999), 443-457.

[6] Alexei Deviatov, Neil Wallace. Another example in which money creation is beneficial. Advances in Macroeconomics, 1 (2001), article 1.

[7] Alexei Deviatov. Money creation in a random matching model. Working paper, New Economic School, 2003.

[8] Drew Fudenberg, Jean Tirole. Game theory. MIT Press, 1991.

[9] John Kennan, Brett Katzman, Neil Wallace. Output and price level e.ects of monetary uncertainty in a matching model. Working paper, University of Wisconsin, 2001.

[10] Nobuhiro Kiyotaki, Randall Wright. A search-theoretic approach to monetary economics. American Economic Review, 83 (1993), 63-77.

[11] Narayana Kocherlakota. Money is memory. Journal of Economic Theory, 81 (1998), 232-251.

[12] Narayana Kocherlakota. The two-money theorem. International Economic Review, 43 (2002), 333-346.

[13] Narayana Kocherlakota, Neil Wallace. Incomplete record-keeping and optimal payment arrangements. Journal of Economic Theory, 81 (1998), 272-289.

[14] Ricardo Lagos, Randall Wright. A unified framework for monetary theory and policy analysis. Working paper, New York University, 2001.

[15] Ariel Rubinstein. Perfect equilibrium in a bargaining model. Econometrica, 50 (1982), 97-109.

[16] James Tobin. Discussion. Models of monetary economics. John Kareken, Neil Wallace, -eds. Federal Reserve Bank of Minneapolis, 1980.

[17] Alberto Trejos, Randall Wright. Search, bargaining, money and prices. Journal of Political Economy, 103 (1995), 118-141.

[18] Neil Wallace. A dictum for monetary theory. Federal Reserve Bank of Minneapolis Quarterly Review, 22 (1998), 20-26.

[19] Neil Wallace. Whither monetary economics? International Economic Review, 42 (2001), 847-869.