Overview:
The Market of Concurrent Trading (MCT) framework offers a conceptual model that illustrates how financial innovations, such as bank money, economize the use of base money in the economy. This perspective contrasts with the traditional view of a “money-multiplying effect,” instead highlighting an “economizing effect” where substitutes for money facilitate trade without increasing the actual base money supply.
The framework provides a way to understand how economic agents coordinate exchanges, substitute financial instruments for money, and achieve equilibrium without relying on a “perfect market” ideal. Instead, all frictions—transaction costs, taxes, information asymmetries—are embedded naturally into how equilibrium prices form. By generalizing the classical equation of exchange, MCT shows that velocity, interest rates, and resource allocation emerge endogenously as markets adapt to real-world conditions.
It’s important to note that while no model can perfectly capture the complexities of the economy, the MCT framework serves as a valuable mechanism for analyzing how markets dynamically respond to factors such as taxes, regulations, and transaction costs.
Financial innovations—ranging from bank deposits to digital tokens—facilitate and greatly expand trade with a given base money supply. By offering near-money substitutes that function as reliable payment instruments, these innovations enable transactions to grow in number and scale without a corresponding increase in central-bank money. As a result, the Federal Reserve’s traditional power to influence broad liquidity and credit conditions may be diminished, since market participants can readily pivot to alternatives that economize on the use of base money.
Ultimately, what underpins the value of any form of money is the real wealth that supports it—the aggregate of current and future productive capacity, savings, and technological potential. If real economic output does not keep pace with expanded liquidity (whether in the form of base money or financial substitutes), the purchasing power of money can erode over time. Thus, the MCT framework highlights how financial instruments can expand the means of exchange and alter monetary velocity, but do not by themselves create new real wealth. Instead, they serve to redistribute existing liquidity and help coordinate production, reflecting that the core driver of the currency’s value remains the real economic activity behind it.
Basic Equation of Exchange and Its Generalization:
Begin with the familiar equation of exchange:
$$ M \times V = P \times T $$
where M is the supply of base money, V is the velocity of money, P is the price level, and T is the total volume of transactions.
In the MCT framework, V, P, and T are not fixed. Instead, they emerge from how agents choose payment methods, identify suitable money-substitutes, and organize production and exchange. The velocity V now reflects the market’s intensity of coordination and the breadth of available payment instruments (e.g., credit lines, stablecoins, financial derivatives).
Production and Real Output:
Underlying the volume of transactions T is real economic output Y, which depends on labor L, capital K, and technology 𝑇𝑡𝑒𝑐ℎ:
$$ Y = f(L, K, T_{tech}) $$
For illustration, consider a commonly used functional form from growth theory and macroeconomics:
$$ f(L, K, T_{tech}) = A(T_{tech})L^\alpha K^{1-\alpha} $$
where A(Ttech) captures technology levels, and 0 < α < 1. As technology improves (increasing A), output can rise without a proportional increase in M. The resulting productivity gains allow more transactions T at stable or even lower prices P, all else equal.
Dynamic Resource Allocation and Equilibrium Interest Rates:
Consider a time element with periods t = 0, 1, 2, …. Agents must choose how much to consume Ct and invest Kt at each stage:
$$ \max_{{C_t,\omega_{j,t}}} \sum_t \beta^t U(C_t) $$
subject to:
$$ C_t + \sum_j \omega_{j,t}q_{j,t} \leq f(L_t, K_t, T_{tech,t}) + \cdots $$
A Simple Numeric Example:
- Baseline (No Frictions): Suppose a simple economy with two assets: a risk-free bond and a commodity. Without any taxes or fees, if agents believe the bond pays $1.05 next period and the current risk-free interest rate is 5%, equilibrium sets the bond price qb today at:
$$ q_b = \frac{1.05}{1 + 0.05} = \$1.00 $$
- With Transaction Costs (τ): Now introduce a small transaction fee τ = 2% whenever you buy or sell the bond. This raises the effective cost of purchasing the bond to $1.02. Even if agents still desire a similar future payoff, they may hold fewer bonds or seek out cheaper substitutes. The new equilibrium might see the bond’s net-of-fees price stabilize at a lower level because fewer traders are willing to pay the higher all-in cost, leading to slightly different interest rates or portfolio choices.
- With Taxes (θ): Suppose a capital gains tax of θ = 20% on asset returns. If the bond pays $1.05 and is purchased at $1.00, the gain of $0.05 is taxed at $0.01, leaving a net gain of $0.04. This effectively reduces the return to 4%, potentially altering the equilibrium interest rate. Investors might shift towards other assets or hold fewer bonds, raising their price slightly to compensate for the after-tax return.
Key Insights from the MCT Framework
1. Economization of Money
By utilizing reliable stand-ins for money—such as bank deposits or digital tokens—an economy can sustain its volume of transactions with a reduced demand for physical currency or base money. This economizing effect underscores how financial innovations can make monetary systems more efficient, rather than simply multiplying the base money supply.
2. Rethinking the Money Multiplier Theory
Conventional money multiplier theory posits that banks create money through lending, effectively multiplying the base money. In contrast, the MCT framework emphasizes that modern financial instruments—be they bank deposits, crypto/stablecoins, or other near-money assets—economize on existing money rather than create it anew. This view highlights the ways in which liquidity can expand without strictly increasing the monetary base.
3. Policy and Regulatory Implications
a. Monetary Policy Tools
Because interest rates and velocity are endogenous under MCT, policymakers cannot rely solely on changes in the base money supply to achieve predictable outcomes—particularly when near-money substitutes (e.g., stablecoins, money-market funds) offer readily available alternatives. These instruments reduce reliance on base money, potentially muting traditional monetary policies. As financial technologies expand the range of money-like instruments, regulators may need to develop new tools or adapt existing ones—such as capital requirements or oversight of payment systems—to maintain their influence over credit availability, interest rates, and broader economic activity.
b. Cryptocurrencies and Digital Assets
Innovations in digital finance create new forms of liquidity that can serve as near-perfect money-substitutes. For instance, a stablecoin can significantly reduce the traditional banking sector’s role in liquidity provision. By modeling how widespread stablecoin usage might shift equilibrium interest rates and asset prices, MCT underscores the need to understand these new liquidity channels.
c. Regulation of the Financial Sector
From transaction taxes to capital requirements, regulatory measures directly affect how financial markets allocate resources. By altering frictional costs, regulations can slow velocity, change asset allocation, and incentivize or discourage disrupt certain trades. MCT-inspired models may help policymakers estimate how these interventions balance financial stability with market efficiency.
Conclusion
Under the MCT framework, equilibrium outcomes—encompassing prices, interest rates, and the velocity of money—emerge from the interplay of real factors (e.g., technology, capital), financial frictions (e.g., transaction fees, taxes), and regulatory forces. Rather than assuming a frictionless ideal, MCT embeds these real-world constraints into the formation of market equilibria. Consequently, whether we are examining the rise of digital currencies, assessing regulatory interventions, or exploring the limits of monetary policy, the MCT framework provides a nuanced lens for understanding how contemporary markets truly function.