Abstract

This paper demonstrates the effects of modeling an endogenous rate of time preference and two cash-in-advance constraints. If the constraint is levied on consumption and capital goods, time preference effects are neutral and cash-in-advance constraint effects invert the Tobin Effect. If the constraint applies solely to consumption goods, opposing motives are offsetting and monetary policy is super neutral.

Highlights

  • The Tobin EffectEconomists have not yet arrived at any consensus regarding how changes in the monetary growth rate affect the real economy in general and steady state capital in particular

  • Using non-optimizing models, this “Tobin Effect” describes how monetary growth yields inflation, which reduces the relative return on holding real balances so that agents convert assets from real balance holdings to capital

  • This paper demonstrates the monetary growth effects of modeling an endogenous rate of time preference and a cash-in-advance constraint on the purchases of consumption and capital goods or consumption goods alone

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Summary

The Tobin Effect

Economists have not yet arrived at any consensus regarding how changes in the monetary growth rate affect the real economy in general and steady state capital in particular. Monetary policy has no effect on household Euler equations, consumption or capital To overcome this limitation and ensure consistent consumption and savings behavior, Kam [5] models the rate of time preference as an increasing function of real wealth to generate a “Tobin Effect” and steady state stability. These results do not depend on the counterintuitive behavior assumptions that call into question the appropriateness of Uzawa’s [6] time preference function. The ensuing reduction in steady state real balance holdings decreases the rate of time preference and raises savings, this generates time preference wealth effects that reinforce the substitution effect and link the monetary and real sectors.

Cash-in-Advance Constraints and Endogenous Time Preference
Cash-in-Advance Constraint on Consumption
Cash-in-Advance Constraint on Consumption and Investment
Conclusion
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