Book contents
10 - Fully Backed Central Bank Money
from Part II - Banking
Summary
A RECURRING MESSAGE throughout Part II of this book is that, in the presence of productive capital (i.e., when x > n), the holding of fiat money may be inefficient in two possible ways. First, fiat money offers a lower rate of return, which discourages people from holding and using this liquid form of money. Second, as people hold more real balances of fiat money, they hold less of productive capital, which reduces real output. In Chapter 9, for example, we saw that people were forced to choose between fiat money – with no transaction costs but unbacked by capital – and deposits – backed by capital but more costly to use.
Isn't there a way to have both minimal transaction costs and money backed by capital? We have speculated that, if we freed private intermediation from all restrictions, inside money might replace fiat money entirely, giving us a money fully backed by capital and paying the same rate of return as capital. Some, having observed the long pattern of government involvement in monetary affairs, might be reluctant to abandon all government involvement. They may doubt the ability of private banking to provide a single money acceptable to all or they may wonder how the economy would function without nominal prices. Without passing judgment on these claims, let us ask in this chapter whether there is a way to organize the central bank to use capital to pay the market rate of return on its money.
To be specific, in this chapter we consider a plan to back the money of the government or central bank with productive capital.
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- Modeling Monetary Economies , pp. 185 - 199Publisher: Cambridge University PressPrint publication year: 2001