| This dissertation presents an empirical study on currency substitution and its implications on optimal seignorage collection, as well as hysteresis effect in a highly inflationary economy, namely Turkey.;First, we investigate the degree of currency substitution in Turkey, using a dynamic money in the utility function model of Imrohoroglu (1994). The inclusion of money services in the utility function can be justified as reflecting the usefulness of both domestic and foreign monies in reducing transactions costs. Money services are produced by a Constant Elasticity of Substitution technology that has both domestic and foreign real balances as inputs. Taking Turkey as the small, open economy and the United States as the rest of the world, both GMM and GME estimates show, for the period 1986--01 to 1999--12, not only a high degree of currency substitution but also a high share of foreign real balances in the production of domestic liquidity services.;Second, using our parameter estimation space from the GMM estimates, we calculate optimal seignorage collection under different alternative values of elasticity of currency substitution, share of foreign balances in the domestic liquidity services, as well as share of money services in the utility function. In a high inflation economy, optimal seignorage collected by the government is very sensitive to these parameter values. The higher the share of foreign balances and the elasticity of currency substitution, the lower the seignorage maximizing inflation rate and optimal seignorage.;Finally, using the portfolio balance model, we investigate hysteresis in currency substitution. Using different cointegration techniques, we reject the existence of hysteresis in currency substitution in the Turkish case. |
