Moneyspots: Extraneous Attributes and the Coexistence of Money and Interest-Bearing Nominal Bonds

It is folklore among monetary theorists that, under laissez faire, without ad hoc assumptions that favor money over bonds, there do not exist equilibria in which government-issued fiat money coexists with nominal default-free, interest-bearing government bonds with similar physical characteristics. This proposition is the basis for the strongest version of the rate-of-return-dominance puzzle. In this paper I show that if—as has been the case throughout monetary history—the physical object used as fiat money is heterogeneous in an extraneous attribute, then there exist equilibria in which money coexists with interest-bearing bonds.