Stable Money Demand Function Research Articles

Stability of money demand function revisited in China

As China's economic reforms have undergone significant structural changes after 1979, it has been rather difficult to formulate a stable money demand function over the period following that year. While previous literature on the long-run relationship of money demand in China shows the existence of stable money demand, this article revisits the stability of the China money demand function over the period after 1979. To employ the unit root tests and the cointegration tests with structural break, the empirical evidence demonstrates that economic and financial deregulation did affect the stability of demand for money in China over the period 1977 to 2002. Moreover, the estimated long-run income and interest elasticity are respectively 1.01 (1.11) and −0.14 (−0.08) using the real M1 (M2) equation. In addition, real income and the interest rate are found to be weakly exogenous. We overall do find structural breakpoints mainly in 1980 and 1993, and they look to match clearly with corresponding critical financial and economic incidents.

Monetary disequilibria and the euro/dollar exchange rate

Although stable money demand functions are crucial for the monetary model of the exchange rate, empirical research on exchange rates and money demand is more or less disconnected. This paper tries to fill the gap for the euro/dollar exchange rate. We investigate whether monetary disequilibria provided by the empirical literature on US and European money demand functions contain useful information about exchange rate movements. Our results suggest that the empirical performance of the monetary exchange rate model improves when insights from the money demand literature are explicitly taken into account.

ANALISIS MODEL MONETER HARGA FLEKSIBEL DALAM PENENTUAN NILAI TUKAR RUPIAH

There are a wide variety of monetary models of exchange rate determination, all of which are outgrowth and extension of the basic flexible-price version pioneered by Frenkel (1978) and Bilson (1978). The research aims to know and prove by empiri-cal means the flexible price monetary model is relevant and advantageous to explain the fluctuation of exchange rate rupiah. The methodology involves testing first two assumption of the monetary model, namely, the price arbitrage (unified goods market) and the existence of a stable money demand function. Having these assumption held, the estimation of fluctuation in exchange rate in 1997-2005 was estimated using the flexible price monetary model developed for this purpose. Estimation of fluctuation in exchange rate suggest that the actual behavior of exchange rate in the period 1997 – 2005 is highly consistent with prediction of the flexible price monetary model. Fluctuation in exchange rate of Indonesia was largely explained by such variables as domestic money demand, domestic income and expected inflation, consistent with hypothesis of the flexible price monetary model.

Currency Substitution in a De-Dollarizing Economy: The Case of Russia

Currency substitution, the use of foreign money to finance transactions between domestic residents, is a common feature of emerging market economies. Currency substitution reduces the stability of money demand functions in ways that can seriously undermine central bank credibility and its efforts to implement monetary policy. Most transition economies, including Russia, experienced widespread currency substitution in the early phase of transition. Following Russia's financial meltdown in 1998, its monetary authorities introduced a raft of changes that substantially improved the stability and performance of the macroeconomy and reduced currency substitution. This paper investigates currency substitution in the Russian economy in the post-crisis period of 1999-2005. Several measures of currency substitution and different modelling frameworks consistently suggest an on-going decline in currency substitution, a shift that has important implications for Russian monetary policy.

The Three Tenets of Monetary Policy

Monetary policy has three tenets: a stable money demand function, a well specified velocity of money and a reliable money creation process. The first tenet determines real money on the demand side of the market and the third fixes nominal money on the supply side. The article finds that these two tenets are present and operative. As for the second tenet, this article is one of the rare studies to test the specification of Friedman (1956), which distinguishes between the effects of transitory and permanent scales of transactions on velocity. The empirical results support this specification quite strongly. The article concludes that monetary policy in Lebanon is feasible, effective, can be independent and should be used for economic stabilisation. The state of the financial markets, as of late, indicates that monetary policy was successful in stabilising prices, inflation and foreign exchange rates and in ending the convalescence period that came after the disastrous economic experience of the war years (1975 to 1990).

MONETARY POLICY IN RWANDA: A COINTEGRATION ANALYSIS

Countries in Africa are increasingly becoming similar in outlook, especially as regards monetary policy. With a view to conducting a long-term study of monetary policy in Africa, we apply an empirical test for the coherence of inflation targeting, first conducted by Nell (2003) for South Africa, to data from Rwanda. We find that like South Africa, Rwanda has a stable money demand function and the adoption of an inflation target is a wise policy option. Also, the Rwandan money market needs just over five quarters to eliminate half of any monetary disequilibrium. These results are of some interest to economists and policy makers for all the countries in the increasingly interconnected continent of Africa.

Money demand and inflation in dollarized economies: The case of Russia

Money demand in dollarized economies often appears to be highly unstable, making it difficult to forecast and control inflation. In this paper, we show that a stable money demand function can be found for Russia by using effective broad money, which includes an estimate of foreign cash holdings. Moreover, we show that an excess supply of effective broad money is inflationary, while other excess money measures are not. Finally, we demonstrate that effective broad money growth has the strongest and most persistent effect on short-run inflation. Journal of Comparative Economics 33 (3) (2005) 462–483.

Aggregate vs. disaggregate data analysis—a paradox in the estimation of a money demand function of Japan under the low interest rate policy

AbstractWe use Japanese aggregate and disaggregate money demand data to show that conflicting inferences can arise. The aggregate data appears to support the contention that there was no stable money demand function. The disaggregate data shows that there was a stable money demand function. Neither was there any indication of the presence of a liquidity trap. Possible sources of discrepancy are explored and the diametrically opposite results between the aggregate and disaggregate analysis are attributed to the neglected heterogeneity among micro units. We provide necessary and sufficient conditions for the existence of a cointegrating relation among aggregate variables when heterogeneous cointegration relations among micro units exist. We also conduct simulation analysis to show that when such conditions are violated, it is possible to observe stable micro relations, but unit root phenomena among macro variables. Moreover, the prediction of aggregate outcomes, using aggregate data, is less accurate than the prediction based on micro equations, and policy evaluation based on aggregate data ignoring heterogeneity in micro units can be grossly misleading. Copyright © 2005 John Wiley & Sons, Ltd.

Aggregate vs Disaggregate Data Analysis - A Paradox in the Estimation of a Money Demand Function of Japan Under the Low Interest Rate Policy

We use Japanese aggregate and disaggregate money demand data to show that conflicting inferences can arise. The aggregate data appears to support the contention that there was no stable money demand function. The disaggregate data shows that there was a stable money demand function. Neither was there any indication of the presence of a liquidity trap. Possible sources of discrepancy are explored and the diametrically opposite results between the aggregate and disaggregate analysis are attributed to the neglected heterogeneity among micro units. We provide necessary and sufficient conditions for the existence of cointegrating relations among aggregate variables when heterogeneous cointegration relations among micro units exist. We also conduct simulation analysis to show that when such conditions are violated, it is possible to observe stable micro relations, but unit root phenomenon among macro variables. Moreover, the prediction of aggregate outcomes, using aggregate data is less accurate than the prediction based on micro equations and policy evaluation based on aggregate data ignoring heterogeneity in micro units can be grossly misleading.

On stability of the demand for money in a developing OECD country: the case of Turkey

This paper empirically analyses the stability of the narrow money demand function (M1) in Turkey for the period 1950?2002. As part of the IMF sponsored stabilisation programme, Turkey has been pursuing base money targets. To ascertain whether this policy framework satisfies the necessary condition for effectiveness, we estimate and test for the stability of Turkish M1 by employing a recent single cointegration procedure proposed by Pesaran et al. (2001) along with the CUSUM and CUSUMSQ stability tests. We demonstrate that there is a stable money demand function and it could be used as an intermediate target of monetary policy in Turkey.

Monetary Disequilibria and the Euro/Dollar Exchange Rate

Although stable money demand functions are crucial for the monetary model of the exchange rate, empirical research on exchange rates and money demand is more or less disconnected. This paper tries to fill the gap for the Euro/Dollar exchange rate. We investigate whether monetary disequilibria provided by the empirical literature on U.S. and European money demand functions contain useful information about exchange rate movements. Our results suggest that the empirical performance of the monetary exchange rate model improves when insights from the money demand literature are explicitly taken into account.

Money Demand and Inflation in Dollarized Economies: The Case of Russia

Money demand in dollarized economies often appears to be highly unstable, making it difficult to forecast and control inflation. In this paper, we show that a stable money demand function for Russia can be found for broad money, which includes an estimate of foreign cash holdings. Moreover, we find that an excess supply of effective broad money is inflationary, while other excess money measures are not, and that effective broad money growth has the strongest and most persistent effect on short-run inflation.

Money Demand and Inflation in Dollarized Economies: The Case of Russia

Money demand in dollarized economies often appears to be highly unstable, making it difficult to forecast and control inflation. In this paper, we show that a stable money demand function for Russia can be found for broad money, which includes an estimate of foreign cash holdings. Moreover, we find that an excess supply of effective broad money is inflationary, while other excess money measures are not, and that effective broad money growth has the strongest and most persistent effect on short-run inflation.

Currency substitution and the stability of the Italian demand for money before the entry into the monetary union, 1972?1998

A money demand function for M2 is estimated for Italy for the period 1972–1998 within an error correction framework. This period has been characterized by major structural changes in the Italian financial system and by major changes in monetary policy. This study takes these changes into account. Moreover, currency substitution, especially between Italy and Germany is incorporated into the model. By accounting for structural breaks and currency substitution a stable money demand function can be found.

Regime changes and econometric modeling of the demand for money in Korea

This paper investigates the issue of whether financial liberalization in Korea has caused the demand function for money to be unstable. Unlike the previous evidence, we show that the stability of money demand function has not been changed by a series of financial reform measures over the sample period. Since the reliability of this finding depends on the statistical validity and appropriate interpretation of the underlying model, we extensively examine the statistical properties of the baseline model by applying various empirical tests, with particular attention to issues of invariance and observational equivalence. The results of the tests show that the estimated ECM model is uniquely interpreted as a backward-looking model and is also invariant to shifts in regime and various reforms in government policy.

The Stability of M3 Money Demand and Monetary Growth Targets: The Case of South Africa

The main purpose of this article is to determine whether money should continue to play an important role in the formulation of monetary policy in South Africa, even though the monetary policy framework has recently changed to an inflation targeting strategy. Money can continue to play an important role in the formulation of an efficient monetary policy strategy as long as there is a stable money demand function and money contains useful information about future price changes. The paper presents empirical evidence of a constant and structurally stable M3 money demand function for South Africa over the period 1968-97. The analysis further shows that the non-constancies experienced during 1998-99 may only be temporary. Despite evidence of a stable M3 money demand function, the results indicate that M3 money provides little information about future price changes in South Africa and may therefore have lost its usefulness as a reliable indicator for monetary policy. The money stock is endogenous, with prices determining money through the stable M3 money demand function.

Estimating a European Demand for Money

European Monetary Union will come into existence in 1999. This raises questions related to the monetary policy targets that will be adopted by the European Central Bank (ECB). For both likely candidates, targeting a money aggregate or an inflation target, the existence of a stable money demand function at a European level is important. In this paper estimates of such a European money demand for narrow and broad money for the actual 11 EMU countries based on quarterly aggregate data from 1964 to 1994 are presented. It is argued that statistically satisfactory and economically interpretable functions can be found. The robustness of the results is further evaluated using alternative country groups. Moreover, the estimated models appear to be stable over a period of 20 quarters. This raises the hopes that the ECB will face a stable money demand and be able - at least for a certain time - to use past aggregate data for policy purposes.

Stability and non-linear dynamics in the broad demand for money in Spain

In this article we estimate a money demand function for broad money in Spain in the period 1978–1998. Stability tests indicate the existence of a stable money demand function in the long but not in the short run. Using recent non-linear techniques, we find that such instabilities are caused by a non-linear adjustment of real balances towards a stable long-run equilibrium.

Money demand in Hungary and Poland

This paper analyses the determinants and the stability of money demand functions in Hungary and Poland, using an error-correction framework. The null of stable cointegration relationships cannot be rejected in some specifications. The results suggest that long-run parameters are in line with economic theory. While judging the appropriateness of different strategies of monetary policy on the basis of these findings alone would be premature, the paper suggests that money demand functions can serve as a useful reference for monetary authorities.

Money demand in Hungary and Poland

This paper analyses the determinants and the stability of money demand functions in Hungary and Poland, using an error-correction framework. The null of stable cointegration relationships cannot be rejected in some specifications. The results suggest that long-run parameters are in line with economic theory. While judging the appropriateness of different strategies of monetary policy on the basis of these findings alone would be premature, the paper suggests that money demand functions can serve as a useful reference for monetary authorities.