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Government Finance in a Model of Currency Substitution

Author

Listed:
  • Lihong Liu
  • Ms. Anne C. Sibert

Abstract

Our model is a variant of the cash-in-advance model. Goods must be purchased in the seller’s currency, but currency may be traded before shopping at a cost. This cost is a measure of substitutability. The model is applied to seignorage taxation. We show that optimal money growth is positive and increasing in substitutability if and only if first- and second-period consumption are gross substitutes. If governments act independently, money growth is suboptimally low if currencies are sufficiently substitutable and too high otherwise.

Suggested Citation

  • Lihong Liu & Ms. Anne C. Sibert, 1993. "Government Finance in a Model of Currency Substitution," IMF Working Papers 1993/080, International Monetary Fund.
    • Handle: RePEc:imf:imfwpa:1993/080
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