First of all, I am from a IT background and currently writing my thesis on a system in which I am have to create a model of a nation. So to run the economy in this simulation (for now you can understand it as a simulation), I need appropriate economic models and monetary policy. I have done my reading on the basics of monetary policy and how central banks are responsible to control the inflation and deflation of currency. And also, I am aware of the gold reserve which now is more like a fractional reserve system. I do understand that the purpose of my project strongly matters in this case, but for a start, a very basic model would be enough. I already am familiar with crypto currencies like Bitcoin, Ethereum etc. Also, this system is run by computer so it's human error / politics proof, or a bit more like an ideal system. So, it would be great to have your insights/opinions on how should I design the currency and the economic model.

  • $\begingroup$ There is no clear or succinct answer to this question. As such, it is not really a good fit for the SE format. $\endgroup$
    – Giskard
    Nov 8 '16 at 11:39
  • $\begingroup$ This question is a bit too broad to give a good answer, but if you are looking at just modelling monetary policy stuff, you can try a New Keynesian model. If that's a bit too involved, you can do a simple game where the Federal Reserve has to deal with the Phillips curve. As for tax policy, you can try looking at Harberger's Incidence model (1962), although it is rather restrictive. Good luck. $\endgroup$
    – Kitsune Cavalry
    Nov 14 '16 at 18:19
  • $\begingroup$ economics.stackexchange.com/questions/9045/… This is what I refer to when talking about a game the Federal Reserve has to play, though it is a very simple formulation of it. (Shameless self-promotion woo) $\endgroup$
    – Kitsune Cavalry
    Nov 14 '16 at 18:22

In fractional reserve banking the money supply goes up and down according to the rate of new money being created as new loans are made and the rate at which existing money is destroyed as loan (principal) is repaid. So your model needs to include some estimate of the mutual enthusiasm, between banks and their customers, for making new loans. This in turn will be a function of the interest rate amongst other things (IMHO most importantly, people's perception of the future trajectory of house prices).

BTW, I hope you're not assuming that the money supply is capped according to the money multiplier story. That's all completely wrong as the Bank of England confirm => here.

An alternative is full reserve banking where the money supply does not go up and down with loans/repayments. In this case new money can only be created by the government/central bank. This would be far easier to model. When looking at full reserve banking - don't be misled into believing that banks can not lend in such a system (as some textbooks may imply). Peer to peer lenders (e.g. zopa) are essentially full reserve banks and they exist already.

  • $\begingroup$ Thanks Mick. Regarding interest, if i am correct,it is basically charged to compensate the loss in the value of money lended today right. As "100$ today is more valuable that 100$ tomorrow". But what if there is deflation in the system? $\endgroup$
    – freerunner
    Nov 8 '16 at 11:11
  • $\begingroup$ Interest is charged by the banks to make a profit. It must make that profit even after taking into account a certain proportion of defaults and all the running costs of the bank - i.e. the rate will be much higher than simply to compensate for inflation. Deflation screws up lots of aspects of the economy and should be avoided. $\endgroup$
    – Mick
    Nov 8 '16 at 11:38
  • $\begingroup$ May I suggest in regards to the full reserve banking you google "Program for Monetary Reform 1939" where a group of economists propose such a model. $\endgroup$
    – Ian G
    Jun 2 '18 at 3:50

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