The Optimum Quantity of Money Revisited: Distortionary Taxation in a Search Model of Money

This paper incorporates a distortionary tax into a microfoundations of money framework and revisits the optimum quantity of money. The money constraint in the decentralized market plays a key role in the optimal policy. Only if the constraint is binding can fiscal policy alter the agents' surplus shares; monetary, but not fiscal, policy affects the agents' bargaining position, leaving a special role for monetary policy. If the buyers surplus share is inefficiently small, the intensive margin is distorted and the constrained optimal policy includes a money growth rate above that prescribed by the Friedman rule, even in the presence of fiscal policy instruments.