Inflation, debt enforcement and currency competition
Rojas Breu, Mariana (2010-09), Inflation, debt enforcement and currency competition. https://basepub.dauphine.fr/handle/123456789/7352
TypeDocument de travail / Working paper
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Author(s)Rojas Breu, Mariana
Abstract (EN)International, low-inflation, currencies are increasingly available everywhere. However, domestic currencies remain the means of payment mostly used in the vast majority of countries. This observation conáicts with the literature on currency competition which predicts that, in absence of transaction costs, agents will prefer to use the less ináationary currency. In this paper, I provide a framework in which ináationary currencies are used, despite the availability of a less ináationary currency. I suggest that the use of domestic currencies is associated with the legal environment that determines the degree of debt enforcement. My key assumption is that full enforcement is not feasible. This entails that the rate of return on currencies is in part determined by incentives eliciting voluntary debt repayment. I show that, under certain conditions, the inflation rate of a currency in which debts are denominated may function as a commitment device. As a result, the more ináationary currency is preferred in equilibrium, despite the absence of costs in using the less ináationary currency.
Subjects / KeywordsMoney; Currency Competition; Debt Enforcement; Banking
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