Research Database

The claim that bad money drives out good is one of the oldest and most cited in economics. Economists refer to this claim as Gresham’s law. Yet despite its seemingly universal acceptance, this claim does not warrant its status as a law. We find it has no convincing explanations and many overlooked exceptions. We propose an alternative hypothesis based on the costs of using a medium of exchange at a nonpar price: small-denomination currency undervalued at the mint tends to disappear from circulation while large-denomination currency usually circulates at premium. Examining a variety of historical episodes when market and legal prices were different, we find our “law” can explain history much better than Gresham’s.

This paper shows how the cross-equation restrictions implied by dynamic rational expectations models can be used to resolve the aliasing identification problem. Using a continuous time, linear-quadratic optimization environment, this paper describes how the resulting restrictions are sufficient to identify the parameters of the underlying continuous time process when it is known that the true continuous time process has a rational spectral density matrix.

Commodity money is modeled as one or two of the capital goods in a one-consumption good and one or two capital-good, overlapping generations model. Among the topics addressed using versions of the model are (i) the nature of the inefficiency of commodity money; (ii) the validity of quantity-theory predictions for commodity money systems; (iii) the circumstances under which one commodity emerges naturally as the commodity money; (iv) the role of inside money (money backed by private debt) in commodity money systems; and (v) the circumstances under which a government can choose the commodity to serve as the commodity money.

This paper describes a technique for distributing quarterly time series across monthly values. The method generalizes an approach described by Fernandez (1981). The paper also presents results of a test of the accuracy of these two approaches and two standard procedures suggested by Chow and Lin (1971).

The inefficiency of fixed rate consumer price subsidies, relative to cash transfers, is one of the best-known propositions in welfare economics. It has also been used to show that matching grants are a more inefficient intergovernmental aid than are lump sum grants. Furthermore, the cost of fixed rate subsidies cannot be controlled without providing a “cap” beyond which amount no subsidy is received. This paper reports, both qualitatively and quantitatively, that a broad class of variable rate price subsidies also dominates fixed rate subsidies on both counts. The relative inefficiency of matching grants compared to the variable rate Federal General Revenue Sharing program is estimated.

Using optimal control theory and a vector autoregressive representation of the relationship between money and interest rates, one can derive a feedback control procedure which defines the best possible tradeoff between money supply fluctuations and interest rate volatility and which could be used to reduce both from their current levels.

Monetary policy is analyzed within a model that ignores transaction costs and appeals solely to legal restrictions on private intermediation to explain the coexistence of currency and interest-bearing default-free bonds. The interaction between such legal restrictions and monetary policy is illustrated in versions of overlapping generations models that contain three assets: government-issued currency and bonds and real capital. It is shown that legal restrictions and the use of both currency and bonds permit the government to levy a discriminatory inflation tax and that such a tax may be better in terms of the Pareto criterion than a uniform inflation tax.

The relative efficiency of alternative income tax systems is analyzed in a dynamic, general equilibrium model having an endogenous labor supply and imperfect risk sharing. This theoretical model allows different tax systems to be compared with respect to their labor distortion effects, their automatic income stability properties, and the welfare they provide on average to a representative consumer-laborer. The comparisons are done for the optimal tax parameters under each given tax system. Despite a role for income stabilization, the optimal income tax schedule turns out to be regressive.

This paper develops a forecasting procedure based on a Bayesian method for estimating vector autoregressions. The procedure is applied to ten macroeconomic variables and is shown to improve out-of-sample forecasts relative to univariate equations. Although cross-variables responses are damped by the prior, considerable interaction among the variables is shown to be captured by the estimates. We provide unconditional forecasts as of 1982:12 and 1963:3* We also describe how a model such as this can be used to make conditional projections and to analyse policy alternatives. As an example, we analyze a Congressional Budget Office forecast made in 1982:12. While no automatic causal interpretations arise from models like ours, they provide a detailed characterization of the dynamic statistical interdependence of a set of economic variables, which may help in evaluating causal hypotheses, without containing any such hypotheses themselves.