IN CHAPTER 1, where the basic overlapping generations model was presented, we concentrated on factors that affected the demand for fiat money. For example, we considered a case in which the population was growing at a constant rate and analyzed the effects of such a situation. In this chapter, we focus on the supply of fiat money.

What are the consequences of an increasing stock of fiat money? What effect does such a policy have on the welfare of individuals in the economy? Can a government raise revenue merely by printing money at a faster rate? These are some of the questions we address in this chapter.

We have seen that we can find a role for money with either the simple, single-good model of Chapter 1 or the more complex multiple-good model of Chapter 2. It can be verified that both models have essentially the same implications for the subject of this chapter, inflation, and for the subjects of later chapters. If two models have the same implications for a topic of interest, then it is generally preferable to work with the simpler model. For this reason, we use the single-good model of Chapter 1 as the framework for this and following chapters.

A Growing Supply of Fiat Money

Let us now study the effects of an expansion of the supply of fiat money. First we consider money supply expansion in the simplest overlapping generations model with a constant population and a nonstorable consumption good. Contrary to Chapter 2, no commodity money is present in the economy.