Income Velocity Of Money Research Articles

Estimating the effects of electronic money on the income velocity of money in Indonesia

Estimating the effects of electronic money on the income velocity of money in Indonesia

WHAT DRIVES MOVEMENTS IN THE INCOME VELOCITY OF MONEY? A CASE STUDY OF THE U.S.

In their efforts to stabilize the price level, central banks often rely on the growth rate in the stock of money as an intermediate target variable. Usually, the premise underlying this approach is that the income velocity of money, defined as the ratio of nominal GDP to the stock of money, either randomly fluctuates around a constant mean or can, at least, be predicted with sufficient accuracy. The purpose of this paper is to put this assumption to the test. We do so by applying a first-order autoregressive model, supplemented by a set of lagged exogenous regressors, to the quarterly changes in velocity in the U.S. Our results confirm previous findings that dynamic dependencies exist between changes in the income velocity of money over successive periods of time. They also support the assertion that rising long-term interest rates lower the demand for money. Perhaps most importantly, however, we find that all else being equal, the degree of financialization in the economy, measured by the ratio of financial assets to GDP, has a positive and statistically significant effect on velocity. A possible explanation of this finding is the increasing availability of tradable, non-monetary financial instruments that are close substitutes for bank deposits.

Asset Prices and Velocity Decline: An Empirical Investigation

The quantity theory of money lost much of its significance in 1980s due to the phenomenon of velocity decline and consequent instability of the money demand function; missing financial transactions and asset prices were believed to be responsible (Borio, Kennedy and Prowse, 1994; and Werner, 2012). This study, therefore, uses asset prices for Pakistan to explain the velocity decline phenomenon in a regression model as well as in Vector Error Correction Model (VECM) using quarterly data for the time period 1981Q1-2018Q2. The study finds significant role of asset price index in explaining income velocity of money with a negative effect. Moreover, the sub-sample regressions show that asset prices are helpful in explaining velocity decline phenomenon for the time period 1981-1998 and 2008-2018 but not for 1998-2008. Moreover, there are brief periods in the sample when velocity actually increased despite an overall declining trend. To explain those short term reversals in velocity trend, the study uses indicator function. Results show that the increase in velocity for brief periods is also explained by asset prices

Mobile Phone Payments and Demand for Cash: The Case of Tanzania

This paper examines recent developments in mobile phone transactions in Tanzania, the extent of its adoption by the general public and motivation for its usage. It also explores how development in mobile phone transactions has affected the demand for cash holdings including its components (denominations) using cointegration approach supplemented by survey. Empirical estimation of Vector Error Correction Model (VECM) of demand for cash using Johansen’s procedure provides no evidence of reduced cash usage driven by proliferation of mobile money transactions. Meanwhile, survey evidence has shown that, in Tanzania, mobile phone transactions have progressively gained pace over the recent years and is now the most used method of payment after cash. This trend is driven by harnessing of underlying financial regulations and platforms, acceptance of this method of payment, security for not carrying cash and simplicity in terms of speed and outreach among the counterparties. The paper concludes that the use of mobile phone money services creates additional pressure on income velocity of money, with potential impact on prices. Under the current quantity based monetary policy framework, this calls for ensuring that monetary policy formulation takes into consideration of this novel development.

Economic Transformation in Bangladesh and the Income Velocity of Broad Money: An Econometric Analysis

This study has undertaken an econometric analysis of economic transformation and income velocity of broad money. To find out the relevant determinants of income velocity of money this paper used time series data on year basis. This paper focus to discover the key determinants of the velocity of money in Bangladesh using the Augmented Dicky Fuller (ADF) unit root test to inspect the stationary, Engle-Granger residual-based cointegration approach to demonstrate the co-integrating association among variables. The main conclusions of this paper are: (i) relationship exists between the velocity of money and financial development. Other important variables that determine GDP growth show a negative relationship with the velocity of money but maintain a positive relationship with the deposit interest rate. Finally, this study concludes by giving some policy recommends for Bangladesh with respect to the velocity of broad money and the monetary policy.

A Monetary Analysis of the Liquidity Trap with an Application to the USA

Keynes emphasized a specific situation in which the liquidity preference becomes absolute, leading to monetary policy ineffectiveness when nominal interest approaches the zero-bound rate. This situation was termed a liquidity trap (LT) by Robertson and was popularized by the Hicks- Hansen framework (IS-LM). Early macroeconomic textbooks characterized the LT as the Keynesian case against the classical one. The “lowflation” environment experienced in the USA and Europe again brought the LT to the forefront. The quantitative easing monetary policy was introduced in Japan and better applied in the USA and EMU as a solution to overcome the LT. The macroeconomic mainstream contends that the LT is essentially a money demand problem, whereas we propose another interpretation; the current situation should be interpreted as a “banking problem” that impedes the transformation of the monetary base into money supply. To prove our thesis, we study the behavior of the USA money multiplier and the income velocity of money by comparing an earlier period with the 2007-2008 crisis period. Using a VAR and a VECM model, we compare the normal situation of monetary policy efficiency with the situation of LT monetary policy inefficiency. We prove that the LT focus should not be placed on the demand for money but rather on the behavior of the money supply – more specifically, on banks’ behavior leading to the transformation of the monetary base into the money supply.

Tax Rate Changes, Interest Rate Volatility, And The Decline In Velocity, 1981-1983

One of the most puzzling economic events in the U.S. during this decade has been the dramatic decline in the growth rate of the income velocity of money. From the fourth quarter of 1981 to the second quarter of 1983, the velocity growth rate fell by nearly 4% as opposed to its 3% trend growth rate. Traditional models have been unable to fully capture this unusual behavior of velocity, over predicting its rate of growth. The present study is concerned with this over prediction problem and attempts to more accurately explain the decline in the velocity growth rate in the 1981-1983 period. It examines the extent to which increased interest rate volatility in the early 1980s and the Reagan tax cuts may be contributed to the decline of the velocity growth rate from 1981 to 1983.

Money Market Rate Variability And The Velocity Of Money: Some International Evidence

<span>This paper re-examines the Friedman hypothesis that uncertainty about the future course of money supply growth influences velocity by focusing on the relationship between interest rate variability and the income velocity of money in nine industrialized countries. As an indicator of the stance of monetary policy, we use the money market rate. Cointegration and error-correction modeling techniques are used to test the hypothesis that the variability of the money market rate impacts velocity. Eight of the nine countries studied exhibit a statistical relationship between the variability of the money market rate and the income velocity of money.</span>

Velocity of Money Function for India: Analysis and Interpretations

Velocity of Money, i.e. the ratio of nominal income to the stock of money, is the spread at which the money changes hand in a given financial year. Keynesian and Quantity theories are two competing explanations of the aggregate money demand. The monetarists think that the stability of income velocity of money (V) is important, whereas Keynesian have criticized the notion of stability of velocity of money. Monetarists believe that velocity of money is relatively stable and changes therein are highly predictable. Neo-Keynesians are less confident and argue that either contention is an exaggeration. In this paper the velocity of money function was estimated using annual data for broad money velocity (V3) for the Indian economy covering time period from 1972-2004. Various combinations of the explanatory variables were tried, each with and without the lagged dependent variables. It was found that (i) velocity of broad money [V3] in India turns out to be highly predictable, which corroborates monetarist proposition. Prior knowledge of a set of explanatory variables such as real income, interest rate, the spread of commercial bank branch-network, and past monetary expansions together can explain more than 98 percent of the variation in velocity of broad money (ii) a comparison of the estimated velocity functions, with and without the 'institutional' variables suggests that inclusion of the 'institutional' variables improves the statistical properties of the fit i.e. 2 and Durbin Watson [DW] statistic. This implies that the long run real income elasticity of money demand is significantly reduced when 'institutional' variables are added to the array of the conventional explanatory variables such as real income and interest rate. However, out of the two institutional variables considered, 'population per bank office' is found to be highly significant in all the cases, while the other institutional variable measuring the 'degree of monetization' is not found to be significant.

The Income and Interest Elasticity of the Transactions Demand for Cash

The classical partial equilibrium inventory approach developed by Baumol (1952) and Tobin (1956) predicts the interest and income elasticity are both equal to a constant of 0.5. This paper shows that in a general equilibrium inventory theoretic framework, first, the income elasticity of money is one, rather than 0.5. This is due to incorporation of the value of the time into the model. Second, the interest elasticity has two values depending on a threshold interest rate. When interest rates are below this threshold, the model is the Cash-In-Advance model with a constant income velocity of money and zero interest elasticity; otherwise the interest elasticity is close to 0.5 and the velocity fluctuates in response to variations in interest rates. Finally, the general equilibrium elasticity results are robust across alternative specifications of the agent's utility.

Where Has All the Money Gone? Wealth and the Demand for Money in South Africa

After trending upward for about 25 years, the income velocity of money in South Africa reversed course in 1994 and began a steep decline that continues to the present day. Some writers have argued that the change in income velocity is symptomatic of an unstable demand for money, the implication of this argument being that movements in the money supply provide little useful information about medium-to-long-term inflationary developments. We argue otherwise. Our basic premise is that there is a stable demand-for-money function but that the models that have been used to estimate South African money demand are not well specified because they do not include a measure of wealth. Using two empirical methodologies – a co-integrated vector equilibrium correction (VEC) approach and a timevarying coefficient (TVC) approach – we find that a demand-for-money function that includes wealth is stable. Consequently, our results suggest that the present practice of the South African Reserve Bank whereby M3 is used as an information variable in the Bank’s inflationtargeting framework is well-placed.

Does inflation targeting really make a difference? Evaluating the treatment effect of inflation targeting in seven industrial countries

We evaluate the treatment effect of inflation targeting in seven industrial countries that adopted this policy in the 1990s. To address the self-selection problem of policy adoption, we make use of a variety of propensity score matching methods recently developed in the treatment effect literature. Our results show that inflation targeting has no significant effects on either inflation or inflation variability in these seven countries. Further evidence from long-term nominal interest rates and income velocity of money also supports the window-dressing view of inflation targeting.

Determinates of the decline in the income-velocity of money in China: a new perspective

The income velocity of money in China has been declining since the country’s reform. By studying the money demand behavior in the agricultural and non-agricultural sectors, we found that the marginal propensity to money demand is much higher in the non-agricultural sector. This implies that as the share of the agricultural sector in national income declines, monetary expansion is expected to meet not only the needs of income growth, but also the rapid structural shifts in the sectoral composition of income. Hence, non-inflationary monetary expansion is possible as development proceeds. This provides a new perspective in understanding the decline in the income-velocity of money in China.

Granger causality of the inflation–growth mirror in accession countries*

AbstractThe paper presents a model in which the exogenous money supply causes changes in the inflation rate and the output growth rate. While inflation and growth rate changes occur simultaneously, the inflation acts as a tax on the return to human capital and in this sense induces the growth rate decrease. Shifts in the model's credit sector productivity cause shifts in the income velocity of money that can break the otherwise stable relationship between money, inflation, and output growth. Applied to two accession countries, Hungary and Poland, a VAR system is estimated for each that incorporates endogenously determined multiple structural breaks. Results indicate Granger causality positively from money to inflation and negatively from inflation to growth for both Hungary and Poland, as suggested by the model, although there is some feedback to money for Poland. Three structural breaks are found for each country that are linked to changes in velocity trends, and to the breaks found in the other country.

Milton Friedman's Paradox and Irving Fisher's Velocity: The Evidence

Friedman held that demand for money is highly stable; yet, he overlooked the conventional wisdom that the velocity of money would be accelerated substantially along with the institutional and technological changes. If no corrective factors to cancel the impact of the accelerative velocity of money, the demand for money must not be stable. Friedman neither set up explicit assumptions for this allowance; nor solved the conflict between his empirical findings and the conventional wisdom. Later economists improperly neutralized Fisher's spirit. A restatement of Fisher's velocity revives the money motion tradition. The transaction velocity of money is the real maximum velocity of money, which would be the tremendous information resources in the near future; the income velocity of money is a hypothetical minimum velocity of money, which survives only in the hypothetical condition; the two velocities may not be the substitutes. The empirical evidence shows that Fisher's transaction velocity of money is an important player, that the zero order correlation coefficients between monetary aggregates and nominal income are significantly reduced when the rate of turnover is under controlled. Besides, the correlations between the rate of turnover and the income velocities of money have changed a lot over time; we may not regard the income velocity of money as the criteria of the velocity of money any longer. The empirical evidence also conveys the message that the debits and turnovers of the demand deposits are closely related to the nominal income in the long run. So they are valuable variables to macroeconomic analysis though they were discarded completely by Friedman.

Velocity of Money: Milton Friedman's Waterloo Battle

There is a long-negligent defect in Friedman's monetary framework. Friedman overlooked the common wisdom that, in the long run, along with the institution and technology changes, the velocity of money would be accelerated substantially. If no corrective factors to cancel the impact of the accelerative velocity of money, the demand for money would be unstable. Friedman neither set up explicit assumptions for this allowance; nor perceived that his empirical findings conflicted with the fast changing realities. Friedman's paradox attributes to the deceiving of the disabled income velocity of money, the inheriting of the Cambridge's equation and the misguiding of the long-negligent defect of Keynesian framework (discuss on next paper). Friedman followed money at rest tradition solely, so his framework is rested on the one-sided ground. Friedman and Keynes' long-negligent defects still hamper the initiative of our mind to varying degrees.

Testing the quantity theory of money in Greece

This paper tests two monetarist hypotheses on the Greek data: (1) the predictability of income velocity of money; and (2) the proportionality postulate between nominal income (or, prices) and money. The unit root tests with structural breaks show that the velocity of narrow money can be characterized as a stationary process. The Autoregressive Distributed Lag (ARDL) approach to cointegration indicates that the proportionality postulate between nominal income (or, prices) and money is supported by the data. This evidence suggests that shocks which affect the money supply are reflected in the nominal income (or, prices) in a similar way, thus velocity will not fluctuate widely and its movements will be predictable.

A note on income velocity of money in a cash-in-advance economy with capital

A stochastic growth model with money introduced via a cash-in-advance constraint is used to analyze the income velocity of real balances. The variability of velocity arises because of the uncertainty about the realization of the state of the economy. Velocity corresponding to the range of values found in empirical data can be obtained.

The Behaviour of Income Velocity of Money in India : Institutional, Structural and Socio-Demographic Determinants

The income velocity of money measured as the ratio of GDP at current market prices to money stocks - M1 and M3 - is found to display the characteristics of random walk during 1950-51 to 1992-93. Accordingly, effort has been directed towards searching for an appropriate functional specification for velocity, which accounts for influence of institutional structural and Socio-demographic changes presumed to affect the velocity behaviour. The empirical results derived from alternative specification of velocity equations reveal that failing to take the cognisance of institutional, structural and Socio-demographic variables may produce an upward biased income elasticity of demand for money. Hence, this study arrived at the conclusion that the virtual decline in velocity when real income rises may be taken to suffer from the errors of ignored variables which act as potential shifters of demand for money.

An Empirical Investigation of Money Demand: Evidence from a Cash-In-Advance Model

This paper investigates the empirical performance of a cash-in-advance model of money demand in which the income velocity of money may be nonstationary. Generalized method of moments is used to estimate parameters from first-order conditions but, unlike much of the existing empirical work on money/asset pricing models, the Euler equations are not assumed to hold exactly. Instrumental variables methods are used to estimate the model parameters, with careful attention paid to the choice of valid instruments. The estimated parameters are used to solve the model and its predictions are compared with those of an unrestricted VAR.