Intermediaries and payments instruments. (Q1812172)

The paper presents the study of an economy in which intermediaries have incentives to issue circulating liabilities as part of an equilibrium. It is shown that, with arbitrarily small transaction costs, only the liabilities of intermediaries will circulate, and not those of other private sector agents. The proposed model is likely the first that connects intermediation activity with the issuance of payments media. The model is used to suggest a resolution of the ``banknote underissue puzzle \textit{P. Cagan} [The first fifty years of the national banking system, in: D.~Carson (ed.), Banking and Monetary Studies, Richard D.~Irwin Publishing, Homewood, IL, (1963)].