Prices and the Velocity of Money in a Model with Search-Based Monopolistic Competition

This paper presents a search-theoretic model to investigate the role for consumers' trade-or-not-to-trade decisions in the interaction between nominal prices and the frequency of monetary trade. The general message of the results is that it yields a positive relationship between them. A rise in prices, which cuts down the value of money, leads consumers to spend their money more quickly. Moreover, there could exist positive feedback: it is found that more frequent shopping of consumers raises the prices posted by profit-maximizing producers or determined in some alternative environments. This positive relationship provides a theoretical account for a positive effect of expansionary monetary policy on production, which is not channeled by capital-money portfolio decisions. Around the unique monetary steady state of the model, an increase in the money supply normally raises nominal prices and the frequency of monetary trade at the same time. This implies that it has not only negative intensive effect but also positive extensive one on production.