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Please use this identifier to cite or link to this item:
http://hdl.handle.net/2451/27157
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| Title: | Money, Transactions, and Portfolio Choice |
| Authors: | Balduzzi, Pierluigi
Foresi, Silverio |
| Issue Date: | Jun-1994 |
| Series/Report no.: | FIN-94-007 |
| Abstract: | Real money balances are held separately for consumption and portfolio
reasons. When real balances are a state variable in the investor’s
optimization problem, there is a specific inflation-hedging portfolio.
An investor hedges against inflation when the effect of real money
holdings on the marginal utility of wealth is negative. We show that an
increase in real balances due to inflation has two opposite effects on
the marginal utility of wealth. On the one hand, the decrease in the
real balances reduces consumption, which in turn raises the marginal
utility and decreases the marginal cost of consuming: this explains why
an investor would normally hedge inflation. One the other hand, the
decrease in real balances tends to increase the marginal cost of
consuming. When this second effect dominates, we have the somewhat
surprising result that the investor reverse-hedges inflation. |
| URI: | http://hdl.handle.net/2451/27157 |
| Appears in Collections: | Finance Working Papers
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