Endogenous Currencies Acceptability

This paper studies currencies acceptability in an economy a la Lagos and Wright [20]. Monies play an essential role as media of exchange in decentralized markets awed by frictions, and an asset-like role in centralized markets. When monies are allowed to compete, the ac- ceptability of each depends (i) on its ability to provide insurance against the in ation tax in centralized markets and (ii) on its role as a means of payment in decentralized markets. When monies growth rates dier, the rst eect disincentives demand of the more intensively issued money, which holders sellers expect to come across more likely in decentralized markets. A tradeo between less in ation tax and fewer chances of selling goods provides new insights into the characterization of dual currency regime equilibria. As agents attempt at balancing o the sum of expected returns from using each money both as an asset and as a means of payment, the following outcomes are possible: (i) the best asset drives the worst asset out of circulation when the rst eect dominates; (ii) monies coexist when expected returns are equal across currencies and (iii) the worst asset drives the best one out of circulation when the protection eect against missed sales provided in decentralized markets is large enough to cause a sellers bias towards acceptability of the more intensively issued currency up to domination of the rst eect. In this latter instance, and unlike models without competing media of exchange, de at- ing the best asset in excess of the Friedman rule is consistent with monetary equilibrium. The optimal monetary policy consists of de ating the best asset (the worst asset) in excess (short) of the Friedman rule by an amount equal to its liquidity gap (premium). Under purchasing power parity, this results in an ever appreciating exchange rate. The framework of analysis can be extended to geographically separated decentralized markets and an international central- ized market. On the former market agents may need to exchange foreign monies for domestic,while only monies' purchasing power matters in the centralized market. Demand and supply for monies in the decentralized market determines spot exchange rates which may temporarily deviate from trends consistent with PPP. Teh relationship between moneatry and exchange rate policy, along with their eects on local and international welfare, should be studied.