New Technology Spillovers into the Payment System

Abstract

In modern economies, multiple means of payment associated with the exchange of goods coexist. This paper examines one such payment system in an economy with endogenous technological change. It consists of money and a costly accounting system that receives spillovers from new technologies. Positive nominal interest rates are shown to produce welfare losses by inducing a reallocation of human capital into the payment system, and out of the production of final goods and new knowledge. The former substitution produces level effects on output and the latter produces growth effects. At higher levels of inflation, these marginal effects are seen to be weaker. In modern economies, multiple means of payment associated with the exchange of goods coexist. Among the available options that facilitate these transactions are costly accounting systems such as credit and debit cards for households and cash concentration and sweep accounts for firms. These systems ultimately depend upon various methods of implementing electronic funds transfers (EFTs), whose efficiency in turn is dependent upon computer and information systems technology. Therefore, the efficacy of these means of payment in minimising fundamental trading frictions can be enhanced by improvements in the techniques for implementing EFTs, or by the 'spillovers' of advances in computer and information systems technology via their application to the payment system. This technology interacts with monetary policy in determining the structure of the economy's payment system. In particular, as inflation rises, agents respond by selecting a payment system with a mix of media of exchange that is more heavily weighted in favour of costly accounting systems to avoid the inflation taxes imposed on cash transactions.1 This may misallocate resources and thus reduce welfare. Marquis and Reffett (I 992 b) examine one such payment system in a stochastic neoclassical growth model where the costs of operating the accounting system arise from using physical capital to run the system. In this economy, inflation taxes are shown to produce level effects on output even when a cash-in-advance constraint is imposed only on a subset of the consumption goods. This contrasts with Abel's (i 985) result for a deterministic, cash-in-advance economy, where it is shown that the cash-in-advance constraint must also be imposed on investment goods for anticipated inflation * We thank Sheng-Cheng Hu, Peter Ireland, Stacey Schreft, Stephen Williamson, participants at the I993 Winter Meetings of the Econometrics Society, seminar participants at the Board of Governors of the Federal Reserve System, and two anonymous referees for their helpful comments on earlier versions of this paper. The views expressed in this paper are those of the authors and do not necessarily reflect the opinions of the Board of Governors of the Federal Reserve System, or its staff.