This preview shows pages 1–3. Sign up to view the full content.
SearchandMatching Models
of Monetary Exchange
Prepared for The New Palgrave
by
Randall Wright
University of Pennsylvania
1I
n
t
r
o
d
u
c
t
i
o
n
In this article we review a class of equilibrium search (matching) models that
can be used to study the trading process, and in particular to develop a formal
theory of
money as a medium of exchange
. Developing such a theory is one of
the longeststanding issues in economics, but it met with at best limited success
prior to the development of searchbased models, which provide a natural frame
work in which to formalize venerable stories about money helping to facilitate
exchange.
1
2 Background
Diamond (1982) introduced a framework that, although it cannot used directly,
can be extended naturally to build microfoundations for monetary economics.
In his model, a
[0
,
1]
continuum of in
f
nitelylived agents interact in an economy
where activity takes place in two distinct sectors: one for production and one
1
These stories, going back to Smith, Jevons, Menger, Wicksell, and others (many of which
are reprinted in Starr 1990) concern a
double coincidence of wants problem
in bilateral ex
change, as discussed below. Overlapping generations models (e.g. Wallace 1980) provide an
alternative approach. Ostroy and Starr (1990) survey earlier attempts to develop microfoun
dations for monetary theory, including Jones (1976), which is similar in spirit if not detail
to modern search models. There is not space here to discuss pros and cons of the various
approaches, but it seems fair to say search and matching models now dominate the area.
1
This preview has intentionally blurred sections. Sign up to view the full version.
View Full Document for exchange. In the
f
rst sector, agents encounter potential production oppor
tunities randomly over time according to a Poisson process with arrival rate
α
.
Each opportunity yields a unit of output at cost
c
≥
0
,where
c
is random with
CDF
F
(
c
)
.S
in
c
e
c
is observed before a production decision is made, given an
opportunity, there is a reservation cost
k
such that agents produce i
f
c
≤
k
.F
o
r
now, these goods are indivisible, and agents can store at most one at a time.
All goods yield utility of consumption
u>
0
, except by assumption agents
cannot consume their own output; hence they must trade. Traders with goods
meet bilaterally in the exchange sector according to a Poisson process with
arrival rate
γ
. Upon meeting they trade, consume, and return to production.
Since all goods are the same, and indivisible, every meeting yields trade, and
every trade is a oneforone swap. Generally,
γ
=
γ
(
N
)
depends on the measure
of agents in the exchange sector
N
. This is based on a matching technology
that gives the number of agents who meet a partner per unit time as
m
(
N
)
,
with
m
0
(
N
)
>
0
, implying
γ
(
N
)=
m
(
N
)
/N
This is the end of the preview. Sign up
to
access the rest of the document.
This essay was uploaded on 04/20/2008 for the course ECON 800 taught by Professor Krueger during the Spring '02 term at Stanford.
 Spring '02
 Krueger

Click to edit the document details