Empirical modeling of money demand

This paper examines several central issues in the empirical modeling of money demand. These issues include economic theory, data measurement, parameter constancy, the opportunity cost of holding money, cointegration, model specification, exogeneity, and inferences for policy. Review of these issues at a general level is paralleled by discussion of specific empirical applications, including some new results on the demand for narrow money in the United Kingdom.The author is a staff economist in the Division of International Finance, Board of Governors of the Federal Reserve System, Washington, DC 20551 USA, and may be reached on the Internet at ericsson@frb.gov. The views in this paper are solely the responsibility of the author and should not be interpreted as reflecting the views of the Board of Governors of the Federal Reserve System, the Reserve Bank of Australia, or any other person associated with the Federal Reserve System or the Reserve Bank of Australia. I am grateful for the generous hospitality of the Reserve Bank of Australia, where I was on secondment when this research was begun. I also wish to thank Tony Brennan, Gordon de Brouwer, Julia Campos, Ed Nelson, Jerome Fahrer, Jon Faust, Steve Grenville, David Hendry, John Irons, Katarina Juselius, Neva Kerbeshian, Helmut Lütkepohl, Dieter Nautz, Athanasios Orphanides, Kevin Prestwich, Robert Subbaraman, Timo Teräsvirta, Jenny Wilkinson, Jürgen Wolters, and two anonymous referees for helpful comments and discussions. All numerical results were obtained using PcGive Professional Version 9.0; see Doornik and Hendry (1996). This paper is a condensed version of Ericsson (1998), which provides additional empirical and analytical examples and more extensive references. The data may be obtained from the Internet at http://wotan.wiwi.hu-berlin.de/oekonometrie/engl/data.html.