Financial Innovation and the Transactions Demand for Cash

49 Pages Posted: 30 May 2008

See all articles by Fernando Alvarez

Fernando Alvarez

University of Chicago - Department of Economics; National Bureau of Economic Research (NBER)

Francesco Lippi

University of Sassari

Multiple version iconThere are 3 versions of this paper

Date Written: September 2007

Abstract

We extend the Baumol-Tobin cash inventory model to a dynamic environment, which allows for the possibility of withdrawing cash at random times at a low cost. This modification captures developments in withdrawal technology, such as the increasing diffusion of bank branches and ATM terminals. We document cash management patterns for households that are at odds with the predictions of deterministic inventory models that abstract from precautionary motives. We characterize the solution of the model and show that qualitatively it is able to reproduce such patterns. Estimating the structural parameters we show that the model accounts for key features of the data. The estimates are used to quantify the expenditure and interest rate elasticity of money demand, the impact of financial innovation on money demand, the welfare cost of inflation, the gains of disinflation and the benefit of ATM ownership.

Keywords: inventory models, money demand, technological progress

JEL Classification: E5

Suggested Citation

Alvarez, Fernando and Lippi, Francesco, Financial Innovation and the Transactions Demand for Cash (September 2007). , Vol. , pp. -, 2007. Available at SSRN: https://ssrn.com/abstract=1138585

Fernando Alvarez (Contact Author)

University of Chicago - Department of Economics ( email )

1126 East 59th Street
Social Science Building, Room 442
Chicago, IL 60637
United States
773-702-4412 (Phone)
773-702-8490 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Francesco Lippi

University of Sassari ( email )

Piazza Universita
Sassari, 07100
Italy

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