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In this paper, we survey recent theoretical work on money and credit following the New Monetarist approach. We argue that a coherent macroeconomic model should show that both these institutions are essential, in the sense that they help achieve allocations that could not be attained without them. As recent literature shows, however, this is difficult to establish and requires being very explicit about the frictions that money and credit help overcome. The paper highlights the importance of microfoundations and provides a word of caution against using reduced form models in macroeconomics.

We consider a simple overlapping generations economy where, because of asymmetric information and limited liability both in the loan and the deposits markets, firms have the incentive to undertake less efficient investment projects, while intermediaries have the incentive to monitor a smaller number of firms. Because of the positive relationship between the deposit interest rate and the level of monitoring, the lending activity of intermediaries may cause endogenous fluctuations in the level of economic activity.In this economy, a higher capital requirement, introduced to render deposit contracts incentive compatible, implies a higher steady state stock of capital, fewer bankruptcies among intermediaries and smaller fluctuations in the level of economic activity.(J.E.L. E32, D82, G28)

A New Keynesian model characterized by labor indivisibilities, unemployment and a unionized labor market is presented. The bargaining process between unions and firms introduces real wage rigidity and creates an endogenous trade‐off between inflation and output stabilization. Under an optimal discretionary monetary policy a negative productivity shock requires an increase in the nominal interest rate. An operational instrument rule will satisfy the Taylor principle, but will also require that the nominal interest rate does not necessarily respond one to one to an increase in the efficient rate of interest.

ABSTRACTChanges in formal and informal central bank independence (CBI) in France, Italy and the United Kingdom in the period from the mid‐1970s to the 1990s are examined; the major changes occurred in the 1990s, after the disinflations of the 1980s. Broad trends in the informal independence of central banks (CBs), defined as the ability to pursue price stability regardless of the government's preferences, are identified on the basis of a monetary policy narrative and an analysis of a set of qualitative determinants of informal independence. The most important determinants are the social/political acceptance that monetary policy is the sphere of the CB, the existence of anti‐inflationary commitments in the form of intermediate targets for monetary policy, the degree of social consensus on the means and ends of macroeconomic policy, and the relative technical expertise of the CB. These broad trends help to explain some of the inflation experience of the 1980s and 1990s, which cannot be understood in terms of changes to formal CBI.

New data on the sources of finance for the non‐financial corporate sector show that Italian firms as a whole use more equity finance than their Anglo‐Saxon counterparts, and smaller Italian firms use equity more intensively than larger firms. Both findings can be understood in terms of the structure of industry and banking in Italy and the relations between them. Firm managers have considerable autonomy vis‐à‐vis both financial markets and intermediaries, and the Italian financial system should be seen as substantially different from either the high internal finance systems of the USA and the UK or the bank‐based system of Japan.