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Return on Commodity Money, Small Change Problems, and Fiat Money


  • We wish to thank the two anonymous referees and the Editor (Masao Ogaki) whose comments have helped us improve the paper substantially. We also thank Nobu Kiyotaki and Gabriele Camera for useful discussions on an earlier draft. All errors are our own.


We construct a search-theoretic model of commodity money where a penny is an indivisible silver coin that can be either melted into a silver bar yielding a positive return or used as a medium of exchange. In equilibria where the rate of return on silver is sufficiently high, small change problems arise in the form of too-much-trade inefficiency because of a too-high value of a penny and no-trade inefficiency because of a shortage of coins in circulation. In the fiat money system, however, trades are not affected at all by the rate of return on silver and the value of a penny is determined by its medium-of-exchange role without incurring the loss in efficiency due to small change problems.