Cigarette Money

Abstract

We study how commodities emerge as money, the way cigarettes did in POW camps. We characterize how specialization, trading frictions, intrinsic properties of goods, and the amount of fiat money determine whether a commodity serves as money and its value. In some equilibria, the exchange value of commodity money is pinned down by its consumption value; in others, it is not. The value of fiat money may or may not be pinned down by commodity money. In some equilibria, the total (fiat plus commodity) money supply is independent of the fiat money supply. We also discuss implications for Gresham's law.