The fact that money, banking, and financial markets interact in important ways seems self-evident. The theoretical nature of this interaction, however, has not been fully explored. To this end, we integrate the Diamond (1997) model of banking and financial markets with the Lagos and Wright...

The authors construct a dynamic stochastic general equilibrium model to study optimal monetary stabilization policy. Prices are fully flexible and money is essential for trade. The authors’ main result is that if the central bank pursues a price-level target, it can control inflation...