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Welfare Improvement from Restricting the Liquidity of Nominal Bonds

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  • Shouyong Shi

Abstract

In this paper I examine whether a society can improve welfare by imposing a legal restriction to forbid the use of nominal bonds as a means of payments for goods. To do so, I integrate a microfounded model of money with the framework of limited participation. While the asset market is Walrasian, the goods market is decentralized and the legal restriction is imposed only in a fraction of the trades. I show that the legal restriction can improve the society's welfare. In contrast to the literature, this essential role of the legal restriction persists even in the steady state and it does not rely on households' ability to trade unmatured bonds for money after observing the taste (or endowment) shocks.

Suggested Citation

  • Shouyong Shi, 2006. "Welfare Improvement from Restricting the Liquidity of Nominal Bonds," Working Papers tecipa-212, University of Toronto, Department of Economics.
    • Handle: RePEc:tor:tecipa:tecipa-212
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    References listed on IDEAS

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    1. Miquel Faig, 2004. "Divisible Money in an Economy with Villages," Levine's Bibliography 122247000000000159, UCLA Department of Economics.
    2. Shouyong Shi, 2005. "Nominal Bonds And Interest Rates," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 46(2), pages 579-612, May.
    3. Williamson, Stephen D., 2008. "Monetary policy and distribution," Journal of Monetary Economics, Elsevier, vol. 55(6), pages 1038-1053, September.
    4. Rao Aiyagari, S. & Wallace, Neil & Wright, Randall, 1996. "Coexistence of money and interest-bearing securities," Journal of Monetary Economics, Elsevier, vol. 37(3), pages 397-419, June.
    5. Lars Svensson & Noah Williams, 2005. "Monetary Policy with Model Uncertainty: Distribution Forecast Targeting," NBER Working Papers 11733, National Bureau of Economic Research, Inc.
    6. Boel, Paola & Camera, Gabriele, 2006. "Efficient monetary allocations and the illiquidity of bonds," Journal of Monetary Economics, Elsevier, vol. 53(7), pages 1693-1715, October.
    7. Neil Wallace, 1983. "A legal restrictions theory of the demand for \\"money\\" and the role of monetary policy," Quarterly Review, Federal Reserve Bank of Minneapolis, vol. 7(Win).
    8. Shouyong Shi, 1997. "A Divisible Search Model of Fiat Money," Econometrica, Econometric Society, vol. 65(1), pages 75-102, January.
    9. Hicks, J. R., 1975. "Value and Capital: An Inquiry into some Fundamental Principles of Economic Theory," OUP Catalogue, Oxford University Press, edition 2, number 9780198282693.
    10. Lucas, Robert Jr., 1990. "Liquidity and interest rates," Journal of Economic Theory, Elsevier, vol. 50(2), pages 237-264, April.
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    Cited by:

    1. Andolfatto, David, 2010. "Essential interest-bearing money," Journal of Economic Theory, Elsevier, vol. 145(4), pages 1495-1507, July.
    2. Young Sik Kim & Manjong Lee, 2009. "Wealth Distribution, Inflation Tax, and Societal Benefits of Illiquid Bonds," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 41(5), pages 809-830, August.
    3. Christopher Waller & Aleksander Berentsen, 2007. "The Societal Benefits of Outside versus Inside Bonds," 2007 Meeting Papers 110, Society for Economic Dynamics.
    4. Andolfatto, David, 2010. "Essential interest-bearing money," Journal of Economic Theory, Elsevier, vol. 145(4), pages 1495-1507, July.
    5. Andolfatto, David, 2008. "Essential Interest-Bearing Money (2008)," MPRA Paper 8565, University Library of Munich, Germany.

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    More about this item

    Keywords

    Nominal Bonds; Liquidity; Money; Efficiency.;
    All these keywords.

    JEL classification:

    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General

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