Working Paper: CEPR ID: DP6472
Authors: Fernando E. Alvarez; Francesco Lippi
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 Codes: E5
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| financial innovations (O16) | higher probability of free cash withdrawals (G21) |
| higher probability of free cash withdrawals (G21) | average cash balances held by households (D14) |
| financial innovations (O16) | average cash balances held by households (D14) |
| higher probability of free cash withdrawals (G21) | average number of withdrawals (G51) |
| higher probability of free cash withdrawals (G21) | average withdrawal size (D14) |