The demand for the components of broad money: error-correction and generalized asset adjustment sytems

Abstract

The distinction between bank and non-bank deposits have been blurred over the last decade and this has led to changes in the demand for various types of monetary aggregates. Thus, money demand studies which focus only on one monetary aggregate like M3 (currency plus bank deposits) without allowing for the altered nature of asset substitutions may lead to wrong inferences about the cause of the growth of the money. This paper is concerned with the interactions between the components of broad money (currency, bank and non-bank deposits) in the long and short run. The long-run asset demand equations are specified to encompass the transaction and portfolio motives for demanding money, while the short-run asset adjustment equations are derived from an underlying dynamic cost-minimizing model. The short-run asset adjustment model is of the error-correction form and, under certain assumptions, is shown to nest the generalized adjustment form. The model is applied to the case of Australia using both quarterly and...