On the Essentiality of Banks

13 Pages Posted: 30 Aug 2011

See all articles by Luis F. Araujo

Luis F. Araujo

Michigan State University - Department of Economics

Raoul Minetti

Michigan State University - Department of Economics

Date Written: August 2011

Abstract

We compare allocations sustained by credit with allocations sustained by bank notes (inside money) in a search model with decentralized trade and limited monitoring. We demonstrate that there exists a credit arrangement that is superior to inside money. However, in contrast with inside money, this arrangement is not robust to an expansion of trade that is not accompanied by an adequate increase in the degree of monitoring. Therefore, banks are essential when trade is intense and monitoring is limited. As a historical application, we argue that our model helps explain the origins of banking in Medieval and Early Modern Europe.

Suggested Citation

Araujo, Luis Fernando and Minetti, Raoul, On the Essentiality of Banks (August 2011). International Economic Review, Vol. 52, Issue 3, pp. 679-691, 2011, Available at SSRN: https://ssrn.com/abstract=1919399 or http://dx.doi.org/10.1111/j.1468-2354.2011.00645.x

Luis Fernando Araujo

Michigan State University - Department of Economics ( email )

101 Marshall Hall
East Lansing, MI 48824
United States
517-355-7583 (Phone)
517-432-1068 (Fax)

Raoul Minetti

Michigan State University - Department of Economics ( email )

101 Marshall Hall
East Lansing, MI 48824
United States
517-355-7349 (Phone)
517-432-1068 (Fax)

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