Modeling Monetary Economies

WE OFFER THIS book as an undergraduate-level exposition of lessons about monetary economics gleaned from overlapping generations models of money. Assembling recent advances in monetary theory for the instruction of undergraduates is not a quixotic goal; these models are well within the reach of undergraduate students at the intermediate and advanced levels. These elegantly simple models strengthen our fundamental understanding of the most basic questions in monetary economics: How does money promote exchange? What should serve as money? What causes inflation? What is the cost of inflation?

This approach to teaching monetary economics follows the profession's general recoginition of the need to build the microeconomic foundations of monetary and other macroeconomic topics – that is, to explain aggregate economic phenomena as the implications of the choices of rational individuals who seek to improve their welfare within their limited means. The use of microeconomic foundations makes macroeconomics easier to understand because the performance of abstract economic processes such as gross national product and inflation is linked to something intuitively understood by all – rational individual behavior. It also brings powerful microeconomic tools familiar to undergraduates, such as indifference curves and budget lines, to bear on the questions of interest. Finally, the joining of microand macroeconomics introduces an element of consistency across undergraduate studies. Certainly, students will be puzzled if taught that people are rational and prices clear markets when studied by microeconomists but not when studied by macroeconomists.

Inertia and tradition, however, have mired the teaching of monetary economics in a swamp of institutional details, as if monetary economics were only an unchanging set of facts to be memorized.