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Nominal exchange rate determinacy under the threat of currency counterfeiting

journal contribution
posted on 2017-04-01, 00:00 authored by P Gomis-Porqueras, T Kam, Christopher Waller
We study the endogenous choice to accept fiat objects as media of exchange and their implications for nominal exchange rate determination. We consider a two- country environment with two currencies that can be used to settle any transactions. However, currencies can be counterfeited at a fixed cost and the decision to counterfeit is private information. This induces equilibrium liquidity constraints on the currencies in circulation. We show that the threat of counterfeiting can pin down the nominal exchange rate even when the currencies are perfect substitutes, thus breaking the famous Kareken- Wallace indeterminacy result.

History

Journal

American economic journal: macroeconomics

Volume

9

Issue

2

Pagination

256 - 273

Publisher

American Economic Association

Location

Nashville, Tenn.

ISSN

1945-7707

eISSN

1945-7715

Language

eng

Publication classification

C1 Refereed article in a scholarly journal; C Journal article

Copyright notice

2017, American Economic Association