On the Importance of Sequencing of Markets in Monetary Economies

Abstract

This paper studies money as working capital in a general equilibrium model. We argue that the way transactions are settled is the main determinant of the presence or lack of working capital in a cash-in-advance economy. In a production cycle, if the wage payments are made before sales proceeds are collected, firms have a financing need. This need alone brings, in a long run equilibrium, a deviation of real wages from marginal product of labor due to a ‘working capital premium’ in output prices. In contrast, if sales revenues can be collected before production costs are paid, then the working capital premium vanishes. These results are obtained in an economy with borrowing constraints, full equity financing, and optimal dividend policy.

The second author thanks the Economics Department of Princeton University for its hospitality and acknowledges the grant awarded by the Scientific and Technical Research Council of Turkey (TUBITAK) under the NATO Science Fellowship Programme as well as support from Bilkent University and the Center for Economic Design of Boğaziçi University Background work that gave rise to this paper was presented at the Econometric Society European Meeting (ESEM’97) in Toulouse, Economic Theory Conference, June 1997, Antalya, and in seminars at Bilkent and Bog̃aziçi Universities. Both authors thank an anonymous referee whose comments have greatly improved the paper. They also thank Ahmet Alkan, Sumru Altug, Farhad Husseinov, Selahattin İmrohoroğlu, Jean Mercenier, Ivan Pastine, Murat Sertel, Sübidey Togan and ünal Zenginobuz for helpful discussions.